As we move into the next phase of the economic cycle, the mergers and acquisitions (M&A) market is poised for a significant shift. After a period of uncertainty driven by global economic headwinds—from inflationary pressures to supply chain disruptions to rising interest rates—demand for M&A deals is building. The backlog created in recent years is expected to have a substantial impact on the market.
The Origins
The past few years have been marked by numerous disruptions in M&A activity. Many deals that were on the table were either delayed or canceled due to economic uncertainty and/or the impact of the fastest pace of interest rate increases on record. Key factors contributing to the slowdown included:
- Market Volatility: Market fluctuations led many buyers and sellers to rethink valuations, making it difficult to reach consensus on deal terms.
- Rising Interest Rates: Central banks across the globe, in particular the U.S. Federal Reserve, implemented aggressive rate hikes, increasing the cost of borrowing for deal financing.
- Supply Chain Constraints: The global supply chain crisis limited access to key inputs, causing businesses to refocus on operational issues rather than M&A activity.
- Geopolitical Uncertainty: Ongoing conflicts and trade tensions, particularly involving major economies, heightened the risk environment for cross-border transactions.
These factors resulted in a growing backlog of potential deals, as companies and investors were on the lookout for more stable market conditions.
The Next Phase
As market conditions gradually stabilize, demand is expected to drive a surge in M&A activity—and it is already occurring. Some factors contributing to this “next phase” of M&A activity:
- Deal Demand: The pent-up demand from companies eager to expand or streamline their operations is expected to drive deal volume higher. Private equity firms, in particular, are sitting on a considerable amount of “dry powder,” and with lower valuations in some sectors, the next few years is expected to be a period of aggressive dealmaking. The healthcare, technology, and renewable energy sectors, where growth opportunities abound, are expected to see a flurry of transactions. Likewise, distressed sectors, such as retail and travel, may witness consolidation as businesses seek to cut costs through synergies and procedural efficiencies.
- Valuations: The spread between buyers’ and sellers’ price expectations has been a major barrier to M&A deals during the past few years. However, as economic data becomes more normalized and predictable, the valuation spread is likely to narrow, allowing more deals to reach the signing table. Despite this, companies in sectors that have weathered the storm well, such as tech and renewable energy, may demand premium prices due to strong growth prospects. Conversely, buyers looking at underperforming or distressed sectors will likely capitalize on lower valuations.
- Financing Strategies: While interest rates remain elevated compared to last 5-10 years, companies are becoming more creative in structuring their deals. There will likely be an increase in alternative financing methods such as earnouts, deferred payments, and equity-based deals. Leveraged buyouts, particularly by private equity firms, are also on the rise, as access to capital remains crucial for larger deals. At the same time, strategic buyers, those looking for synergies rather than only financial gains, will be less affected by the cost of debt, further supporting M&A activity.
- Cross-Border M&A: As global travel continues to normalize, and geopolitical uncertainties are moderated, cross-border M&A transactions are set for a rebound. Companies looking for growth in new markets will resume their international expansion efforts. Sectors like consumer goods, industrials, and technology are expected to lead in cross-border deal activity as companies seek diversification in supply chains and market exposure.
Potential Risks
While the M&A market is expected to see a surge in activity, several risks could disrupt this forecast. The ongoing risk of a recession, U.S. election impacts, continued inflationary pressures, and potential geopolitical conflicts could once again threaten to dampen M&A market optimism.
In Conclusion
The next few years represent a crucial period for the M&A market, as pent-up demand and the backlog of deals will likely drive a substantial uptick in activity. Companies with robust balance sheets and clear/intentional strategic goals will take advantage of this opportunity, leveraging M&A as a tool for growth and transformation. While risks remain, the M&A market is set to experience an active period as we enter a new phase of economic recovery.
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