Mergers and Acquisitions: The Current State and Predictions for 2021

December 1, 2020  |  By Joseph Nappi  |  3 Minute Read

In 2020, mergers and acquisitions hit their lowest point in over a decade for both total deal value and number of deals closed. This drastic downturn was due largely to the COVID-19 crisis and subsequent shutdown of businesses and unexpected switch to work-from-home.

Looking forward to 2021, a potential vaccine and a workforce better equipped for remote operations presents a more positive outlook for M&A. Here’s a recap of the state of M&A throughout 2020 and a look at what 2021 may bring.

COVID-19’s Impact on M&A Activity in 2020

At the onset of the pandemic in the U.S. in March 2020, transactions in the pipeline stalled as organizations aimed to get their hands around the situation. In addition, the inability to meet face-to-face to conduct due diligence caused delays and put deals at risk. By Q2, acquirers—still unable to travel—focused on bolt on acquisitions rather than new platform acquisitions. Later in the year as the economy began to reopen, there was a rush to close deals before the end of 2020 when the U.S. faced a potentially new political environment that may impact taxes.

Generally, for those companies most negatively impacted by the pandemic, deals either did not close or deadlines were extended. Companies that were positively impacted by COVID-19 tried to extract the additional value they were generating by retrading transactions. Industries that were highly vulnerable to the pandemic were consumer durables, energy and utilities, industrial equipment, real estate, retail, travel, and hospitality. However, not all companies faced strong negative consequences from COVID-19. For instance, industries such as pharma/biotech, software, and the technology sector only briefly paused activity, then remained robust throughout the year. Equity investors looked for safe capital investments with the top companies in each sector.

The Current State of M&A

While the summer saw an increase in activity to close deals before the year’s end, M&A again slowed as fall approached, putting 2020 on pace for the lowest deal activity since 2009. Yet, valuations as a whole stayed the same in the $10MM-$250MM space. Q2 and Q3 values averaged 7.4x TTM adjusted EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization), which was unchanged from Q1. Debt retrenched during the quarter as leverage multiples fell to 3.3x from an average of 3.9x in Q1, which meant that the average equity needed to close a transaction increased from 49% to 57%. To complete deals, there needs to be changes in structure and/or the use of a deferred consideration mechanism to account for COVID impacts on EBITDA.

More positively, the swift shift to virtual M&A resulted in a greater sense of comfort in utilizing digital settings for diligence. In the future, this could have an impact on sourcing and execution. In addition, banks are beginning to become more competitive for deals, which will hopefully increase willingness to add more leverage to the transaction. Yet, there is still billions of dollars that have not been invested, with over $728bn dollars of dry powder sitting with PE funds (72% of which was raised in 2019 and 2020).

What M&A Activity in 2021 May Look Like

M&A executives are sending clear and strong signals that dealmaking, like alternatives to “traditional” M&A, will be an important lever as businesses recover and thrive in the post-COVID-19 economy. There is expected to be a greater focus on domestic deals, as well as add-on acquisitions and platforms business that groups already have familiarity with. We have already seen a recovery in the public markets as market caps that had fallen as much as 20% as of March 31 have rebounded to a total decline of only 4% as of July 31.

Additionally, according to Deloitte’s Future of M&A Trends Survey, organizations are pursuing both traditional and alternative deals, with companies expanding their definition of M&A to include alliances, joint ventures, partnerships, and other alternative investments that create intrinsic and long-lasting value. COVID-19 has accelerated dealmakers’ needs to create more optionality for organizations’ internal and external ecosystems. In fact, more than half of these U.S. dealmakers (61%) expect M&A activity to return to pre-COVID-19 levels within the next 12 months.

The Future of M&A

2020’s M&A activity was unexpected and unpredictable due to COVID-19 shutdowns and its wider implications for the economy, but as 2021 begins, M&A is projected to begin returning to “normal.” One big change, however, that took place this year is how deals are done—and this may continue in the future.

To learn more about the future of M&A, or to discuss your next potential merger or acquisition, contact a Phoenix professional today.

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