Is 2022 a Good Time to Consider M&A?

M&A Had a Banner Year in 2021
There is no question that 2021 was a year for the record books in the M&A marketplace. In the US, over 18,500 M&A transactions closed vs. 14,800 in 2020. After a dramatic drop in M&A volume in 1H’20 due to COVID-19 rearing its’ ugly head, the M&A market proved resilient and healthy. Multiple stimulus packages propped up the domestic economy; however, as the experts say “past performance is not an indicator of the future.”

For owners and acquirers that are considering M&A, the primary question they are likely asking is…”should we proceed in 2022 or hold off until 2023 or later?” In this article, I will share my opinion.

Stagflation, Supply Chain Crisis Will Not Help M&As
Several macroeconomic trends portray a picture of storm clouds on the horizon. The American Cares Act of 2020 injected $2.2 trillion into the economy, the Stimulus & Relief Bill injected $900 billion in 2021 and the American Rescue Plan injected $1.9 trillion into the money supply in 2021. $5 trillion in stimulus is massive. With too much money chasing too few goods, (M2 money supply grew from $16.01 trillion in March ‘20 to $21.4 trillion in November ‘21), inflation was stoked. December ’21’s 7.12% increase in the Consumer Price Index was the highest 1-year spike recorded since June 1982! November ’21’s Producer Price Index (a leading indicator of future inflation) showed a 22.63% increase over November ‘20, the highest PPI increase since 1974!

Meanwhile, while the preliminary Real GDP growth rate in 4Q’21 was 1.7%, for an annualized basis, the increase for the quarter was 6.9%, and for 2021, real GDP grew by 5.7%. The Federal Reserve Board had forecasted a 5.5% change in real GDP, therefore actual GDP was slightly higher. However, while 2021 GDP growth is solid, it is calculated off of 2020, which was a year heavily impacted by COVID, with a -3.41% GDP. What is perhaps more significant is that in December 2021, the Federal Reserve Board established projections for 2022’s GDP growth to decelerate to 4.0%, 2023 to further decelerate to 2.2%, 2024 to 2.0% and 1.8% for the long run.

Federal Reserve Board Projected GDP Growth

	2021	2022	2023	2024	Long Run
Change in real GDP	5.5%	4.0%	2.2%	2.0%	1.8%

A slowing economy combined with rising inflation means the US may be faced with a season of stagflation. Stagflation was an ugly word from the 1970s and early 1980s, eliminated and not to be heard from since through Fed Chairman Paul Volcker’s leadership. Stagflation and M&A don’t mix well together. According to ITR’s Monthly Report in December, “the US economy is shifting gears for 2022 from very high growth to decelerating growth. The projected slowing growth trend is depicted in the US Industrial Production Chart. The year-over-year growth rate diminishes but remains positive. We refer to this as a ‘soft landing’ for the economy. Of concern is that cyclical decline in the economy in 2022 will mean that it is more susceptible to negative pressures.” Of note, the Federal Reserve Board is not projecting a lingering inflationary period. Instead, they shared a 2.7% inflation rate in 2022, followed by 2.3% and 2.1% core PCE inflation in 2023 and 2024. However, Washington has been stuck on the fact that inflation is “transitory” so I am unconvinced, due to the supply chain crisis, that inflation will retreat.

Turning to that supply chain crisis, this also has negative implications for a healthy M&A market, affecting a multitude of industries. Sentiment is that this crisis could take 9-15 months to resolve itself. What could be more troubling is the fact that China currently has enacted a hard lockdown of between 20 million to 70 million of its’ citizens since mid-December. This is not being broadly reported on in the media. Of the 8 Chinese cities in hard lockdown currently, 3 are major ports. If their lockdown persists and perhaps spreads, its’ impact on the supply chain crisis could worsen the US’s stagflation.

Multiple Geopolitical Threats
The world stage is as volatile as any time of my professional life. Let me mention 3 international crises that are real threats to stability: 1) China invading Taiwan, 2) Russia invading Ukraine and/or 3) an Israeli attack. These 3 threats each have a probability of escalating into real conflicts. According to International Crisis Group’s December 2021 report, an Israeli attack has the greatest probability of escalation, followed by a Russia-Ukraine conflict, while a Chinese invasion of Taiwan is predicted to be less likely. Any of the 3 becoming a reality could be a shock to M&A markets due to the potential counter actions and effects on trade partners and supply chains, not to mention the safety threat to humans in the crossfire.

Conclusion
The health of the M&A market is dependent on healthy, growing economic conditions, along with geopolitical stability. Presently, I see these foundations are not as stable as in previous years. So, while we can look back into the rear view mirror and report on the huge year M&A had in 2021, it would undermine the macro threats to M&A that we see just over the dashboard. Stagflation, coupled with a global supply chain crisis, will likely result in lowered business valuations. Lowered valuations are likely to be combined with increasing interest rates as the Fed changes its monetary policy, resulting in higher costs of capital for business valuations. This means that valuations will retreat, just as acquirers will have higher hurdle rates to accomplish their much-needed ROIs.

What does this all mean? Pulling the trigger to cross the “M&A Bridge” in 2022 may be a very wise decision as opposed to a “wait and see” attitude. Why? Because we are still in highly favorable market conditions to transact M&As. However, if any combination of these concerns raised in this article come to fruition, M&As will become more difficult to close. Stagflation will have a macro effect of lowering valuations. Higher costs of capital will increase hurdle rates for buyers. Both buyer and sellers will face more headwinds. We are still in an attractive window however for those who know M&A is important. My advice is to make your decision in a timely fashion.

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Sources:
S&P Global Capital IQ
Federal Reserve
JP Morgan
CNBC
The Thinking Conservative
New York Times
International Crisis Group
ITR Monthly Report
Federalreserve.gov

Southeast USA Closed M&A Transactions in 2021

The following table includes 158 M&A transactions closed in 2021 where the buyer or seller was headquartered in the Carolinas or Georgia. All transactions are greater than $25MM in enterprise value. Real estate transactions are not included in the table.