We attended the SBIA Southern Private Equity Conference in late February, talking with private equity group buyers and other professionals focused on smaller, lower-middle market M&A deals — typically companies with $2 million to $10 million of EBITDA. What was the outlook for smaller companies looking at deals on the horizon? In a few words: some slowing in the market, financing a bit tougher, and, as a result, slightly lower valuations but nothing drastic.
Fast forward to the last few weeks, particularly the events leading up to the Ides of March, and the environment has certainly changed. Social media-driven bank runs and regulators plugging holes, not to mention competing banks helping each other, have dominated the headlines. The looming recession, recently penned as the “Godot Recession,” appeared a bit more likely than at the beginning of March, and now it looks like as if it may finally arrive!
As a result, we can expect things to tighten up even more from the outlook in February. Although enormous pools of equity capital remain in place for M&A deals, these deals depend on bank debt for most of their financing structures. If the banks pull back due to liquidity and solvency fears, buyers have less total capital to deploy, thus resulting in lower valuations. At the larger end of the transaction scale, far away from the lower middle market, the IPO market is dead and financing for larger deals has shrunk. These trends are notable because what happens in the public markets and with larger deals eventually filters down to the market for smaller M&A deals.
The intent is not to cast too much doom and gloom on the M&A market, rather, it’s to point out that the market we’ve seen over the past couple of years is fading away. Shrinking capital and a “risk off” mentality, combined with possibly lower recessionary earnings, are not a good combination for shareholders considering a sale in the near future. They should prepare themselves for a different market than we what we saw in 2021 and 2022.
That said, there is still ample capital to execute transactions; the market will simply be more discerning. Good companies will always get their deals done. Growing earnings, capable management teams, low customer concentration are all hallmarks of quality companies that the market likes to see. Not-so-perfect companies will face increased scrutiny and due diligence from potential buyers.
So, where does this leave us? In particular, is this a good time to sell? Our answer is that many factors are baked into the decision to sell a company. Family and management issues, in addition to diversification and liquidity strategies, should drive the decision. We’ve rarely seen anyone call the timing just right on any potential deal. In fact, some terrible mistakes have been made when shareholders make timing their primary goal. The market has slipped a bit, but no one knows if it will get better or worse. If a sale makes sense now, there is a market to facilitate any reasonable transaction.
Don’t let the emotional impact of the financial headlines drive your decision making. The sale process should be carefully planned and executed without undue influence from the constantly shifting financial markets.
Contact Jim Lisy at jlisy@cohenco.com or a member of your service team to discuss this topic further.
Cohen & Co is not rendering legal, accounting or other professional advice. Information contained in this post is considered accurate as of the date of publishing. Any action taken based on information in this blog should be taken only after a detailed review of the specific facts, circumstances and current law.