Deal Trends: Panelists Examine the Path Ahead in M&A
At ACG Atlanta’s February 2021 virtual event, experts met to discuss deal trends resulting from the COVID-19 pandemic and anticipated tax reforms related to the new Biden administration. Riveron’s Mike Dunkle hosted panelists Stephen Carr (Citizens M&A Advisory), D’Andre Davis (Select Interior Concepts), Anthony Hauser (MSouth Equity Partners), Phil Theodore (McGriff, Seibels & Williams), and Brendan Thomas (Troutman Pepper).
Top trends for mergers and acquisitions (M&A) and private equity (PE) in 2021?
Generally, consumers and businesses alike appear ready for a market rebound, particularly for hard-hit markets such as restaurants, hospitality, tourism, and in-person entertainment. Rapid and successful vaccine rollouts could help expedite a faster rebound in these sectors. In 2020, some companies did not make intentional pivots because their existing offerings were already well-suited for consumer appeal during the pandemic. Meanwhile, some well-positioned companies fared well though many due to the help of PPP loans and flexibility offered by lenders due to short-term economic uncertainty.
Certain sectors will need to focus more time on expense management generally—not limited to technology expenses—to emerge strongly from the pandemic. A focus on profit and loss will prevail as standard behavior for businesses going forward, with the pandemic serving as a wake-up call.
A multi-year timeline may be necessary for many businesses to return to pre-pandemic levels, and late 2021 may present the first wave of re-openings that show positive impacts for many PE-owned businesses. It will also require skill to determine whether pandemic-related impacts are temporary or permanent. Some considerations:
- Are there alternative ways of consuming products or services? What is the related net impact on top-line growth?
- Is there a higher projected return on investment (ROI) for such alternatives, and does it cause any changes to management strategy?
- Are new future business states sustainable, more efficient, or preferred by consumers?
Deals today include highly competitive processes and are conducted differently now compared to before the pandemic.
Regarding the new Biden administration, the panel discussed what may impact M&A most in 2021. The highest impacts may relate to what is not changing. For monetary policy, a panelist observed that leadership at the Federal Reserve tends to carry over from administration to administration and appears strongly focused on keeping credit loose for a longer period than business strategists may have anticipated. In turn, credit availability may make M&A deals more feasible and appealing.
For public corporations seeking to acquire businesses, the discussion also noted past cases in which the investment thesis was impacted by sensitivity around taxation. With some experts projecting taxes to be higher overall in 2022, more parties may rush to complete transactions before 2021 ends.
Capital gains tax reforms will likely be a top concern for business founders and owner-operators. Potential upcoming reforms incentivize strong M&A activity in 2021 for sellers seeking to exit before long-term capital gains taxes significantly increase.
For M&A sales processes, are pandemic-related changes here to stay?
Some PE firms have started to use a two-step “bake-off” process to assess bankers’ pitches. Before the pandemic, PE firms may have assessed six banker teams on an in-person process. Now, private equity firms often invite more bankers to pitch virtually and then reduce the number of finalists down to two, changing the elements of competition and eliminating travel and other time-consuming steps in the pitch process.
In many cases, follow-on virtual processes are seamless. Where collaboration tools like Zoom allow time to be spent with management teams, this also allows ample time to conduct due diligence and include third parties in meetings, including those who may not have been participants in the pre-virtual meeting environment. These updated meeting methods have eliminated many redundancies and enabled knowledge sharing without travel. As most deals are now going virtual, another impact is that more bidders can participate as needed, often in phases prior to a letter-of-intent (LOI). This typically results in higher competition and—in some instances—higher purchase prices.
Citing recent M&A advisory experience, Riveron experts have recently observed some common trends related to accounting and diligence. Deals today include highly competitive processes and are conducted differently now compared to before the pandemic. Examples of the latest differences include:
- More advisor involvement prior to a buyer’s letter-of-intent.
- At times, a different sequence of events related to diligence and from a preparatory standpoint.
- “Hot” valuations and transaction multiples that call for validation from a quality of earnings review, and sometimes less room for negotiation.
- An increasing number of indemnifications and representations demanded of sellers.
- Also, in an atypical order, sellers are increasingly seeking clarity on working capital target mechanisms at the front of deals
To shore up a deal close, processes may require more effort and a rushed process, which could have impacts to significant true-up mechanisms, non-working capital pegs, or the way estimated impact funds flow at closing, all requiring added challenges in getting deals fully buttoned up.
Despite advantages of moving to virtual processes, there are also downsides. Some virtual-only meetings can unfavorably impact a deal. Virtual meetings can inevitably involve compressed timing and run differently than traditional meeting methods. Detailed meeting agendas and questions are often required 24 hours in advance, giving sellers longer preparation to formulate responses on certain topics than pre-pandemic times did. Buyers, sellers, and advisors must now navigate new professional conduct required in a virtual process while giving up some of the in-person improv that previously may have led to desired transparency.
Predicted changes in the market related to SPAC trends or new regulations?
Several high-profile names have been noted getting into SPACs, potentially a reaction to increased SEC scrutiny for going public in a traditional manner. In the summer of 2020, M&A activity had been projected to decrease in favor of distressed activity picking up, with finance restructuring teams ready to respond accordingly. However, teams did not face as much distressed activity as anticipated, and M&A activity remained steady or increased—depending on the industry.
Concluding discussion, the panelists observed that potential regulatory precedents may not necessarily stifle M&A activity. For example, the new clean energy initiatives proposed by the Biden administration may increase multiples and activity within that sector. Often deal cycles are busiest at year-end, with a slight lull in January and February, a lull the panelists had not seen this year. With a promising deal pace beginning 2021, the panelists shared a majority sentiment indicating favorable conditions related to M&A activity in the year ahead.