If 2015 was the year of mega-deals, fueled by a host of conditions including the availability of cash and stable public equity markets, tax considerations, and senior executive confidence, then what’s in store for 2016?
The general sense coming out of Wall Street following earnings season seems to be that M&A activity at the very high-end has reached its peak, with some weakness in the first few weeks of the year, compounded by the possibility of ongoing challenges in the public markets and high-yield markets, putting a damper on deal making at the highest level. Some firms seem to see the overall trend remaining positive – Goldman Sachs CFO Harvey Schwartz noted a “pretty powerful M&A trend” in his comments relating to the potential impact of the first couple of weeks of 2016.
Following the wave of M&A activity we’ve experienced over the past couple of years, it seems reasonable to consider that the wave is cresting at the top, but does activity at the lower end of the M&A market still have a way to go? Bloomberg News recently interviewed John Reiss, global head of M&A group at White & Case, on the topic of “higher volumes and smaller deals” – the general premise being that, with the possibility of interest rates increasing and some “cautionary” effect on M&A, the mega-deal market may be slowing, but the overall M&A engine is fairly strong.
There’s anecdotal evidence that the M&A in the middle market is slowing, with a couple of recent headlines telling the story: “financing tightens for mid-market companies” and “landscape shifting for M&A in 2016”. However, in my view, many of the conditions for the recent strong middle market M&A environment are persisting into 2016:
- Continuing availability of debt financing. Debt, while slightly more expensive on the margin than six months ago, is still fairly readily available and inexpensive compared with historical criteria and rates.
- A stable economic climate. While concerns about a possible late 2016 US recession have become more widespread and several large companies (e.g. J&J, Yahoo, Dupont, Schlumberger) have announced layoffs, real GDP growth is still widely expected to be in the 2-2.5% range for 2016. Modest growth, but not a contraction.
- Public markets valuing “growth stories”. The stock market has been rewarding acquirers following M&A announcements over the past couple of years and many publicly-traded acquirers of middle market companies continue to describe M&A as an important piece of their growth strategies.
- Foreign interest in US businesses. Inbound M&A is one area that seems to being seeing a long-cycle increase that’s reaching in to the middle market. Interest in US targets remains high, with the US viewed as an attractive environment for acquisitions. A few deal drivers, particularly related to Chinese acquirers, appear to derive from relatively long-term changes, rather than short-term market conditions. Concerns about the impact of CFIUS have abated as buyers have gained more experience with US regulatory agencies. The view of Chinese buyers as viable acquirers in traditional M&A processes has become more favorable, with sellers more open to seriously considering Chinese interest and with Chinese firms learning to navigate the “US style” of M&A.
- Technology. It’s been behind some of the biggest shifts in wealth over the past 20 years and continues to influence the competitive playing field in virtually every industry. As new technologies are adopted within industries, competitors find new ways to support their customers and companies on the right side of that curve can benefit substantially.
- Private equity activity remains robust. For the middle market, private equity influences M&A activity in a number of ways. For smaller sellers, “platform” companies owned by private equity firms can be great acquirers – their boards are often actively considering “add on” acquisitions – and for larger middle market companies, the private equity buyer is often a strong alternative to a strategic sale or other liquidity event.
- Interest among sellers. It’s our experience that many middle market owners, particularly those controlling very closely-held businesses, having pushed through the recession and posted at least a few years of good results, are in retirement planning mode and are actively coming to market in 2016.
With $5 trillion in global M&A, 2015 is a hard act to follow. Middle market M&A in 2016 looks to be supported by a number of factors carrying over from the 2014-2015 boom, with a few long-term trends possibly offsetting shorter-term headwinds.
Alan Fullerton is a partner with Mirus Capital Advisors. He works with owners of middle market businesses and can be reached at email@example.com.