View from Europe: Of Bulls and Bears

A look behind the scenes of Europe's surging stock markets.
Janet KersnarFebruary 1, 2006

On November 28, the DJ Euro Stoxx 50 — the most actively traded barometer of big European companies — reached its highest level since its record low in early 2003. The major national indices in London, Frankfurt, Paris, and Amsterdam were all posting similar gains of about 20 percent on the year, and up around 75 percent since that 2003 trough, though still well below the crazy peaks of 2000. The European bourses have been powered largely by frothy growth stories and the start of long-awaited cross-border takeover activity in sectors ranging from telecoms to banking. But while the renewed confidence among investors is certainly welcome, Europe’s CFOs are facing heightened risks as this bull market starts to get a foothold.

Part of the reason for the increased risk is the change in financing conditions. While CFOs spent much of 2004 cleaning up balance sheets and improving credit quality, 2005’s growth strategies tempted companies to leverage up and take advantage of the cheap lending on offer from their banks. That explains why more than half of Europe’s cross-border deals over the past year were paid for in cash, often borrowed from banks eager to arrange cheap bridge loans at terms never seen before — and that may not be seen again. Indeed, the European Central Bank’s decision in December to raise interest rates for the first time in five years is a good indication that CFOs will face an entirely different financing landscape in 2006.

That has big implications for Corporate Europe as it returns to M&A. In sharp contrast to the go-go deal-making days of 2000, when companies typically used their own overvalued stock to make acquisitions, the risk in the current wave of takeovers lingers in the form of the debt that must be refinanced when bridge loans start to expire, in the next 12 to 36 months.

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Another threat: failure to deliver on shareholders’ growth expectations. With memories of the dot-com crash still fresh, investors are wary of firms that overpromise and underdeliver. But it’s clear that sustainable, profitable growth in Europe is difficult to deliver. And it’s not just because in many mature sectors there’s simply no more room left for major expansion. Politics plays a role, too: the floundering structural reforms of the EU’s economic laggards continue to cast a pall over corporate strategies.

The upshot: more and more companies in 2006 will be forced to look for growth in markets where they have had little or no experience. And that poses a whole new set of risks that CFOs must learn quickly how to mitigate and manage.

Janet Kersnar is editor-in-chief of CFO Europe.