There was a 90% drop in deals to start the year — Morgan Stanley's top banker on what happens next

Published Mon, Jul 27 202011:58 AM EDT

A View from the Top is a Q & A series exclusively available on CNBC Pro . Alex Sherman will regularly speak with a new business leader about decision-making, investing and industry news. This has not been a good year for people whose livelihoods depend on mergers & acquisitions. Second-quarter deal activity in the U.S. dropped a whopping 90% from a year earlier to just $75 billion in total volume. Global dealmaking is at its lowest levels since the financial crisis. Don't expect a second-half bounce back, says Morgan Stanley Global Head of M & A Robert Kindler. He explains why a combination of virus uncertainty, high valuations, and regulatory challenges set up a cocktail for few large deals in the remainder of 2020. Still, companies will eventually return to dealmaking with a vengeance, Kindler says, because it's the only way to generate significant earnings growth. He also explains why the largest technology companies, such as Amazon, shouldn't be broken up, and he reveals the deal he most wished happened that didn't go through. Here's the full Q & A: (This interview has been lightly edited for length and clarity.) Alex Sherman, CNBC: What are CEOs and board members talking about right now? Is it the election? Is it getting everyone back to work? Projections around a vaccine? What is it that they're discussing? Rob Kindler, Morgan Stanley Vice Chairman and Global Head of M & A: Everything has been about liquidity and operations. The boardroom and CEOs at every company I know have been, first and foremost, talking about how you operate during a pandemic and how the world may change post-pandemic. And then, what is our liquidity? And part of liquidity isn't just the companies that have had significant issues. It's broader. Interest rates are at historic lows. So companies -- even investment grade companies -- have been issuing huge amounts of debt. So, it's adjusting to this very low interest rate environment. Look where the 10-year treasury is now. Well under 1%. So the focus is operations, longer-term strategy, liquidity, and taking advantage of doing financings in a low-interest rate environment. It hasn't been on M & A. At some point, the focus will shift to M & A, because it has to. But for right now, there's still too much uncertainty. You were on CNBC recently , and you said briefly that M & A is a bigger strategic imperative now than it's ever been. Can you briefly explain why? There are several factors there. Every company and every investor is looking for earnings growth. That's what every investor is looking for. That drives value, that drives multiple. Over the past several years, if you look at how earnings have increased, just take the S & P 500, a lot of that earnings increase has been from cost cutting and margin improvement. That played out. It still has a place, but it played out considerably. So, you're no longer going to get earnings growth from that. It's been done. Another factor from the investor perspective is that stock repurchases are really not viewed as a strategy. They're actually not viewed as something most investors want, generally. It doesn't mean that they don't have a place. Repurchases make sense if you have excess capital. But if you're an investor now, you'd much rather a company buy something, get the synergies, and increase earnings. If you're an investor and you're getting all this cash returned to you, what are you going to do with it? You'd probably look for something to invest in. So, and this was really led by BlackRock a few years ago saying to the world, 'enough with repurchases.' Instead, that money should be spent investing in capital and M & A. If you're a CEO now, you're faced overall with a low growth environment. Price increases are not realistic. You've got low growth, low interest rates, low inflation. You can't cut costs anymore. There's never been more of a time when doing deals is going to be critical. At some point the floodgates are going to open for M & A. But I actually am of the view that it's going to take some time to get there. When the deal boom will begin Meaning -- it won't be in the second half of the year? I don't think so. Certainly not for big deals. The reasons are: first, valuations are high in the market, so it's hard to do a cash deal. Certainly you could see stock deals like the Analog Devices deal or the Aon deal. Second, there are too many regulatory constraints. The thought that a large tech company or a large pharma company is going to do a transformational deal in the regulatory and political environment we're in is going to be very challenging. If you take a combination of a difficult regulatory environment, high valuations, and continued uncertainty with respect to the virus and the election -- not with regulatory but maybe with tax policy -- you take all of that, and I just can't see near term there being a lot of M & A. Will it ultimately come back? It has to come back. It's always come back -- and for even more compelling reasons this time than in the past. On the regulatory front, do you have a viewpoint on the differences between what a Donald Trump regulatory environment looks like versus a Joe Biden regulatory environment? I think CEOs believe that it really doesn't matter, because Trump has been very populist in looking at M & A, and also quite unpredictable. On the other hand, his administration did approve Sprint and T-Mobile, which almost certainly wouldn't have been approved under a Democratic administration. A democrat would probably be more populist and more predictable. But overall, it's not a big difference. It's going to be challenging whatever happens. So what's going to happen is if you're someone looking to sell an asset, and there's any regulatory taint, you're more likely to go with a private equity buyer than a strategic. Even if the antitrust risks aren't real, meaning ultimately whatever issues there are can ultimately be resolved, it still will take over a year to get to closing. So I think it favors private equity in the near term. Grading media deals One of your main areas of expertise is in media and telecommunications. There have been a number of those deals in the past decade that haven't worked out. You've seen significant value destruction from the size of the combined companies at deal announcement versus years later. So, two questions: why do we keep seeing them, and two, what does this mean for the future of media consolidation? For every deal, you have to look at what would have happened to both companies had they not done the deal. So you can't just look at a deal in isolation. But, it's a very fair point that some very notable large deals didn't work out. AT & T's acquisition of DirecTV has resulted in a huge loss of value. AT & T wasn't in that business. They weren't consolidating a business they were in. The Sinclair acquisition of the regional sports channels ended up being a huge down draft of the stock very quickly. We were advising someone else looking at the RSNs and couldn't get anywhere near the value they paid. That was predictable. On DirecTV, I think that was predictable too. So what I'm saying is just because we've had some big media deals that haven't worked doesn't necessarily mean all media deals won't work. But those two are good examples. Another example is the Meredith acquisition of Time Inc. We were on the sellside there with Time Inc. It was a good deal for Time Inc. because it was an all-cash deal, but now, people are questioning, did it make sense for Meredith to double down on print? A fourth example is Discovery's acquisition of Scripps Networks . Scripps was a fantastic company built by Ken Lowe, who was one of the great visionaries in media. But did it make sense for Discovery? It wasn't providing any diversification, and it was a fully distributed set of cable networks. You could look at those deals and say media deals never work out, but I actually think my takeaway is that smart media deals do work out. What's a good example of a recent deal you think is smart? And how do define smart? It will prove over time that Viacom and CBS together are much better off than had they stayed separate. Those are complimentary businesses. They should never have been broken apart. By the way, this doesn't have anything to do with the competitive position of a combined ViacomCBS. It has everything to do with was each company better off together. I don't think that there's any doubt that they are. A hugely successful media deal is when Comcast bought NBCUniversal . I think many people are skeptical there's any synergy at all between content and distribution. But I don't think Comcast viewed it as that. They were just thought NBCUniversal was a great, hugely undervalued asset. And they were right! They've driven huge value from it. I think the Disney-Fox deal , it's probably too early to say -- Disney stock has gone way down, but that is likely due to the pandemic. I actually think that was a smart deal. Fox has tremendous content, and there are actual synergies consolidating the studios. The Time Warner deal with AT & T was a brilliant deal from the Time Warner side. From the AT & T side, I think it was viewed as buying a very good and stable business that would enable them to preserve their dividend. In other words, I think they felt they were buying themselves a better business than just cellular and satellite TV, with DirecTV. So, I don't think media deals are necessarily bad deals. But I do think the