M&A is driven by established trends worldwide which are also reflected in Latin American deal transactions.
With the 2020 disruptions behind us, Mergers and Acquisitions (M&A) practitioners have a lot to think about when it comes to Latin American deals. The first half of 2020 saw a substantial slowdown in transactions, higher political uncertainty, and inconsistent regional responses to the pandemic within the region. An eventful presidential election was held in the United States, and presidential, mid-term, and mayoral elections were held in some of Latin America's largest economies such as Brazil, Argentina, and Mexico. Peru also held a general election in April 2021. Dealflow was strong at the end of 2020, with the region noticing a significant recovery in M&A transactions. Even though COVID-19 pandemic resurfaced some historical socio-political challenges endemic to the region, Latin American M&A activity appears to be returning to pre-pandemic levels which are fueled by the resurgence of its strongest economies.
For bidders, the perplexing geoeconomic and sociopolitical landscape necessitates a careful examination of political risk in the host country of the acquisition or merger target. Such danger manifests itself in a variety of ways. Changes in public policy, tax laws, governmental approvals proceedings, and legislative or regulatory requirements are all examples. Changes in the terms of contracts with government counterparties, as well as changes in foreign exchange rules or cash repatriation laws, can have a significant impact. Political uncertainty may even result in a downgrade of the host country's sovereign credit rating and, as a result, the credit ratings of local issuers. When times are tough, governments are forced to take drastic measures and wise investors understand that, within the confines of investment treaties, agreements, and norms of international law, any country not just Latin America can pass new laws as their legislatures see fair, in order to address the most necessary requirements of their citizen.
Successful investors in Latin America, like those in other emerging markets, understand these risk factors as well as the region's distinct characteristics. They thoroughly research the region's nuances, both culturally and commercially, as well as the effectiveness and limitations of the host country's legal system in enforcing the rule of law and the investment protection framework provided by any applicable investment treaties. After identifying the aforementioned factors, the wise investor anticipates market competitors in order to gain an advantage in their investment. All of these factors can have a direct impact on the return on investment (ROI) and even the merger or acquisition's success or failure. Investors should also be familiar with the host country's political and legislative cycles, not just because that gives a valuable edge during negotiations.
Furthermore, understanding the differences between legal systems and the protections they provide allows investors to accurately price assets. It is no coincidence that those who place the appropriate level of emphasis on these factors from the beginning of a transaction typically achieve the best results, both in the transaction and in the subsequent post-merger integration and operations. A thorough understanding of the factors that influence a deal's success can pay off pretty good dividends. Long-term investment decisions should always be based on the fact that new administrations following elections may have opposing views on policies and social issues. They may make changes that affect the investor and the potential ROI yield of the transaction, as well as its overall feasibility. Several governments in Latin America adopted populist, nationalist policies during the pandemic, emphasizing the importance of investors paying close attention to all investment protections available—both in terms of the host country's court system's efficiency in enforcing the rule of law and under the country's multilateral and bilateral treaty networks.
Despite these risks, investors have many reasons to be optimistic about their prospects in Latin America. Resilience and growth were evident in the region's largest economies in the second half of last year, and this momentum has continued into the first half of 2021. The current year began with an increase in M&A year on year, with a healthy pipeline, particularly from the middle-market to the larger players. M&A activity has been gradually returning to pre-pandemic levels as the year has progressed. This is not just an accidental trend. Latin America is a promising investment prospect due to the region's continued consumer growth. Its young citizens want high-quality urbanization and infrastructure, better and more efficient services, and faster and more effective technologies.
The MSCI Emerging Markets Latin America Index, which includes large- and mid-cap representation from Latin America's six largest economies, shows that year-to-date returns in those markets outperform returns in other emerging markets in the first half of 2021. The willingness of local counterparties, on the procedural front, to run acquisition processes more institutionally through investment bankers or international financial advisors, along with relying on more conventional international M&A structures, such as stock-for-stock acquisitions, reverse triangular mergers, and similar business combinations which are popular in the US and Europe has delivered much-needed comfort to market participants in the region which is certainly restraining.