European merger and acquisitions activity endured its biggest summer slump last month, raising concerns that deals are drying up as a result of the global credit crisis. The value of European M&A deals announced for August fell 69% from the previous month to $62bn (€45bn) as the pipeline of private equity deals relying on debt market funding petered out, according to Dealogic, a data provider.

August is usually the quietest month for M&A but the record fall, compared with a rise in dealmaking during the same period last year, has fuelled fears that the M&A boom has ground to a halt. The previous worst slump was in August 2001, when activity fell 67% compared with July.

Bankers’ optimism has evaporated and they have switched their focus from private equity firms in favour of companies, which have cash to spend and do not need to borrow to do deals, although many fear that targets will not accept bids until the market volatility has disappeared.  One head of UK investment banking at a US bank said: “The financial buyer market is dead but we are not going to be able to tell until this week whether the rest of the market is in the same state.”

Also in August, European equity capital markets issuance fell 91%, the biggest fall since 1999, while corporate debt issuance dropped by 65%, the sharpest downturn in four years. Willem Sels, head of credit strategy at Dresdner Kleinwort, said: “September is a dangerous month. There is the risk that any recovery gets crushed by new supply, either in the loan or the bond markets.”

European M&A activity was running at record levels until the crisis in the US sub-prime mortgage market triggered a wider drop in the credit markets, stalling big leveraged buyouts such as UK retail chain Alliance Boots, as banks failed to syndicate the debt they had underwritten.  Bankers are pinning their hopes on the return of corporate buyers, which had previously been outbid for assets from private equity firms.

One noted: “Corporates have come to us and suggested that together we dust off a few files of deals they have shelved because of competition from financial sponsors which had pushed up prices. They’re saying, ‘let’s see if we can get this done’. The difficulty is that, in this environment, unless a company is under pressure to sell itself then it is unlikely to. They’re not going to get as much money.”

One M&A banker added: “Companies like GE, Rio Tinto, and Royal Bank of Scotland can still raise cash for deals that make sense and where there is a certain amount of flexibility.” Last week, mining company Rio Tinto raised $40bn from an oversubscribed loan package for its acquisition of Canadian aluminium maker Alcan.

Private equity firms have played a central role in the M&A boom, breaking all records by buying big European-listed companies by borrowing debt cheaply from investment banks. With these deals on hold, bankers are also concerned that many announced deals may fail.  The UK banker said that $300bn worth of leveraged loans remain to be syndicated, the equivalent of three months’ supply.

Syndication of the £9bn (€13bn) of debt used to back the £11.1bn buyout of Alliance Boots has been postponed until the first quarter of next year, according to a banking source, while debt in US credit card processing group First Data is expected to price below par when it starts syndication this month, indicating the consortium of lending banks will take a big loss on the transaction, according to sources close to the situation.

Stephen Georgiadis, a partner at Altium, a mid-market investment bank, said: “Some banks which have underwritten the debt component of large leveraged buyouts are finding that they can’t syndicate it out at anything other than a significant discount.

“They are therefore faced with the unpleasant choice of selling it at a discount – and having to book the resulting loss – or sitting on it until conditions in the debt markets improve. Even if they choose the latter ‘ostrich’ option, they may be constrained by their risk officers from underwriting new LBO loans for a while.”

One US bank is understood to have more than $50bn of exposure to leveraged loans and, if it is forced to sell at current rates, could see its investment banking profits wiped out.