It's slow speed ahead rather than no speed ahead for M&A activity as coronavirus-related uncertainty dissipates.
Acquirers and their investors have slowly learned to live with the pandemic, experts say. There was a shock and a lot of questions in the markets, but clients' comfort level has grown in the last month, Grant Thornton Advisory Services Director Michael Joseph says.
When COVID-19 first impacted companies acquirers stopped doing new deals, refocusing their efforts on completing ones already in process, Willis Towers Watson senior director David Hunt said. But they've started buying again as they have become more assured.
Buyout investments hit the highest quarterly market share since 2001, accounting for 26.5% of the total U.S. M&A investments in the second quarter, from 24.5% in the first quarter, according to Mergermarket. Buyout investment recorded 192 deals worth $15 billion in Q2, down 47.1% by deal count compared to Q1 this year (363 deals, $48.6 billion), and the lowest Q2 deal count since 2014. In the first half of the year, 555 buyout deals were announced, worth $63.7 billion.
For private equity, getting back to making deals is important, says Grant Thornton’s Joseph; they have an obligation to their investors to actively look for investments to deploy capital.
Due diligence changes
But their due diligence has changed. In deals you need to bring numbers to the story, but it's harder to use historical data to predict the future, Joseph said.
Acquirers are looking at data, such as whether sales increases during coronavirus will temporary or permanent, in a different light.
Acquirers are also searching for financial risk indicators, such as whether targets and customers are slower to pay bills, Joseph says.
Ryan Maupin, a Grant Thornton specialist on distressed companies, says some industries that are in trouble now were distressed before the pandemic. For instance, restaurants have long suffered from higher commodity costs and increased minimum wages in some states. Retail also fared poorly pre-COVID, he said. "People don't go to malls anymore."
No overpayment risk
While a mound of cash built up before the pandemic has resulted in a lot of capital chasing distressed opportunities, Maupin says, there is little danger of acquirers significantly overpaying.
"There is competition out there," he said. "You may run the risk of outbidding the stalking horse bidder, but still gain advantages — important levers to pull, such as getting rid of leases in bankruptcies and buying assets free and clear of liens. You’re able to operate a business with a leaner capital structure."
Hunt says due diligence is taking unusually long. Some people from whom an acquirer needs to get information may no longer be in the office. An acquirer might want to know how an IT system was established only to be told "'Billy, who created it, was furloughed,'" Hunt said.
Supply chain due diligence is also dragging. It used to be just a financial exercise, like looking at pricing or possible synergies between the target’s supply chain and the acquirer's, Hunt said. Disruptions were very short lived and local. But today, potential acquirers need to see how targets handle disruptions and what mechanisms they have in place to handle future ones.
Another altered aspect of due diligence: more can go wrong with HR and other interactions with a target’s employees, at both ends of a deal. "They're looking deeper into these non-financial issues," Hunt said.
Workers are on edge but the good ones can find jobs in any economic environment, the specialists say.
Employee safety, a matter acquirers paid little attention to before, has become top of mind, Hunt said. And the commonality of layoffs, and how they are handled, is under stepped-up inspection.
One of the keys to making a successful deal a success, he said, is to integrate a target's employee into an acquirer. This has become more difficult, because the personal connection of face-to-face meetings are no longer an option.
At the same time, Hunt said, virtual data gathering has been commonplace for years, with virtual data rooms and telephone conferences between the participants on both ends.
The closing, re-openings and re-closings that have been going on haven't affected deal making because the initial closing and re-openings were short-lived.
Another reason mergers and acquisitions are dragging is government regulatory staffers are in their offices infrequently, said Ron Oertell, CFO for LendingUSA, an unsecured consumer lender focused on point-of-sale locations with 10,000 merchants.
Oertell says determining the valuation of targets has become harder. While "innovation" has had the compelling character of a "shiny new thing" for years, some of the attractiveness has diminished in some sectors, he said. He names innovations in conference centers and hotels as being less valuable now than before the pandemic.
Acquirers have to look harder at the reasons for a target's success, especially whether those reasons can keep the target thriving. A target may have seen success as an early online meeting vendor, for example, but its profitability and market share could be drained due to low entry barriers.
Online telemedicine platforms could be more sustainable, Oertell said, because requirements to compete in the space are harder to fulfill, such as getting privacy protections in place and signing up doctors.
Looking at his own company, Oertell said, COVID-19 has made touch-less payments an obvious growth area, as people seek to limit their contact with cash.