The last two consecutive quarters have been unlike any we’ve seen since the financial crisis of 2008. I’ve personally seen a 500% increase in total deal closures year-over-year from 2012 to 2013. It also sounds like general market trends are heralding similar numbers. And, barring any major, fiscal or systemic shock to the financial markets, there are a number of reasons we expect the 2014 M&A landscape to fare even better than 2013. Here are a few reasons why.
- The cost of capital is virtually zero. With the cost of capital at its lowest rate in a lifetime, the ability to finance deals—if your business has the financial stability to do so—is as good as it’s ever been. Apple itself has taken advantage of low rates to issue $100B bond to simply pay a dividend—a strategy that saved the company billions by avoiding the taxes inherent in repatriation. M&A will also benefit from this low cost of borrowing, but it certainly can’t continue in ad-infinitum. The window to act on may only last two or three more years.
- Corporate balance sheets are cash-flush. Thanks to the low cost of capital many companies are sitting with unprecedented amounts of cash on their balance sheets, earning little in return. The pressure to find deals and increase returns has not, until now, outgunned the risks of putting capital to use. This trend will also not continue forever, as the pressure to find above market returns will only increase as interest rates slowly rise.
- Valuations are up and sellers are capitulating on price. After 2008, middle-market companies saw major devaluations in their businesses. Companies who had previously been on the market saw the willingness-to-pay by both financial and strategic buyers plummet overnight. Luckily valuations are back up. We’ve also seen a correction in the ballooned valuations of pre-2008. Since then, many sellers have seen the necessity of capitulating on their overly optimistic valuation expectations. These combinations make for healthy environment where M&A can flourish.
- The middle-market has pent-up supply. Many would-be sellers have been holding-off on selling until valuations were resuscitated to their former levels. Now that we’re seeing an increase in valuations, the pent-up supply of mid-market owners and managers is hitting a bit of a fever pitch and will most likely continue unabated through 2014.
- Demographics point toward greater sell-side transactions. We’ve discussed how much of the deal-flow over the coming decade will be brought about by baby boomers selling their companies. It is difficult to deny this shift in demographics. Combine it with the aforementioned pent-up supply and it’s a combination that is rife for merger deal-making.
There are certainly reasons to look ahead with optimism. Risks certainly remain, however, as we head into 2014. The potential for global shocks, major bond and equity bubbles and overvaluations in certain sectors could have downward pressure on valuations. We hope, however, that a good mix of fundamental finance combined with other endogenous and exogenous factors will contribute to a great year in mergers