M&A Market Commentary

US transaction volume fell by 30.3% from 2022 to 2023, dragging aggregate transaction value down from $2.98 trillion to $1.83 trillion over the same period.

Throughout 2023, M&A activity remained sluggish. According to S&P Global, early in the year initial optimism for a broad M&A recovery waned due to increased turmoil in the finance industry, leading to significant bank failures and the forced sale of Credit Suisse. This turmoil led banks to tighten credit, creating obstacles for M&A by constraining economic growth and limiting access to financing. US transaction volume fell by 30.3% from 2022 to 2023, dragging aggregate transaction value down from $2.98 trillion to $1.83 trillion over the same period. [1]

Kristen Broughton writing for the Wall Street Journal notes that the Federal Reserve’s aggressive rate hikes made debt financing more expensive and, in turn, changed what acquirers were willing pay. This led to a differing of opinions between buyers and sellers on company valuation. Acquirers focused on lower projected enterprise value of acquisition targets while sellers believed the public-market value of companies had been driven up by record highs in the stock market. Wall Street Journal notes that in recent years, public market valuations have consistently surpassed deal multiples, with this trend intensifying in the current year. The public-market capitalization for S&P 500 companies in relation to EBITDA experienced a significant 69% increase in 2023 compared to 2011.

Differing views on value combined with uncertainty surrounding the economic outlook led dealmakers to pause.

Meanwhile, strategic deal multiples declined by 12% during the same period. This made it difficult for companies to come to an agreement over financial terms, leading to deal negotiations halting when buyers and sellers could not agree on a price. Differing views on value combined with uncertainty surrounding the economic outlook led dealmakers to pause.[2]

2023 saw increased difficulty in completing deals due to higher financing costs while large deals also faced increased regulatory scrutiny.

Another effect of the current financing environment is that the number of larger deals has decreased. A PwC report notes that larger deals are more susceptible to market volatility. 2023 saw increased difficulty in completing deals due to higher financing costs while large deals also faced increased regulatory scrutiny. As these issues persisted, mid-market deals became more attractive. Due to their size, deals under this threshold are less impacted by market volatility. Pursuing mid-market deals allowed companies to avoid the issues faced by completing larger deals while achieving their strategic goals through a series of smaller transactions rather than one large deal. This is seen through the 11% decrease in large deals (deal value greater than $1 billion) globally from the second half of 2022 and the first half of 2023 compared with deals with value less than $1 billion experiencing only a 4% decrease over the same period. Since 2021, a record year for M&A, these deals only experienced a 20% decline while larger deals saw a significant 56% decline.[3] From 2022 to 2023 the number of all M&A transactions both globally and within the U.S. fell by 22% and 30%, respectively.

A large contributor to the decrease in dealmaking is due to the more cautious approach being taken by private equity firms.

A large contributor to the decrease in dealmaking is due to the more cautious approach being taken by private equity firms. These firms frequently depend on leverage during transactions which has been made difficult by the high costs of financing seen in 2023. Analysis done by PwC shows that the volume of private equity investments was down 53% YoY between 2022 and 2023.[4] Financial sponsors have ample funds available for acquisitions, with global private equity dry powder reaching a historic high of $2.49 trillion by midyear, reflecting an increase of over 11% since the end of 2022. In the first eight months of 2023, private equity-backed deal value declined more compared to volume YoY. This suggests that fund managers were focusing on smaller deals, possibly due to the elevated cost of leverage. If unpredictability is reduced in the worldwide economic outlook, it is expected to facilitate a better alignment between sellers and private equity buyers. As involvement increases and private equity firms deploy their dry powder, it could result in an increase in deal activity.

High financing costs, economic uncertainty, and geopolitical crises have decreased the number of M&A transactions globally.

The global M&A market faces many of the same headwinds as the United States. High financing costs, economic uncertainty, and geopolitical crises have decreased the number of M&A transactions globally. The global number of transactions declined 22% in 2023 compared to a decline of 13% the year prior. However, the United States faced a sharper decline of 30% and 15% in 2023 and 2022, respectively. A decline in deals in the United States is a primary driver behind the decline in global transactions due to the United States making up 37% of the total number of global transactions.

The number of IPO deals fell to 131 in 2023, reflecting a decline of 85% compared to 2021.

Examining IPO issuance trends in the United States over the last five years reveals the number of IPO deals has declined by 7%. The number of IPO deals fell to 131 in 2023, reflecting a decline of 85% compared to 2021.

Gross proceeds amounted to $15.1 billion in 2023 which is nearly 40% better than 2022, but still below 2021 levels of $235.2 billion.

Turning to look at fixed income trends, as of October 2023, corporate bond issuance in the U.S. reached a total of $1.2 trillion, indicating a modest increase of 2.9%, according to SIFMA. Over the past five years, the corporate bond issuance landscape has seen relatively stable figures, with a CAGR of -0.1% in volume issued. Among the sectors contributing significantly to corporate bond issuance, Industrials stood out, accounting for 8.1% of total issuance. [5]

The percentage of companies actively involved in buying or open to it in 2024 increased to 56% from 45% in 2022.

According to a survey of 400 U.S. middle-market company leaders and private equity principals performed by Citizens Bank, sentiment about the outlook for M&A in 2024 is largely positive. The percentage of companies actively involved in buying or open to it 2024 increased to 56% from 45% in 2022.[6]

If dealmakers see the economy stabilizing, particularly the interest rate environment, it is likely that the M&A market will see an increase in transactions.

This is driven by the macroeconomic outlook becoming more positive, despite some lingering caution due to the volatility of the last few years. If dealmakers see the economy stabilizing, particularly the interest rate environment, it is likely that the M&A market will see an increase in transactions. This is because a stable rate environment, even if rates remain relatively high, provides clarity on deal costs, potentially boosting buyer confidence to pursue acquisitions and paves the way for an M&A recovery. However, a fifth of respondents still say that they expect the economy to worsen, so proceeding with caution and careful deliberation is potentially the best strategy entering 2024.

Capital allocation will remain one of the key deal drivers in 2024.

According to PwC, capital allocation will remain one of the key deal drivers in 2024. High cost of capital in 2023 driven by high interest rates decreased deal activity due to increased hurdle rates and challenges with deal funding. However, confidence in the forward rate environment as we near the end to the Fed’s rate-hiking cycle could have a positive impact on deal flow. In the meantime, PwC notes that companies have been exploring more creative dealmaking opportunities such as strategic divestitures. As private equity firms have somewhat pulled back due to high cost of capital, most opportunities will come from corporates with strong balance sheets because they face less competition from sponsors.

Pursuing a deal during a volatile time sometimes results in acquiring targets at a lower valuation.

Despite the hesitation seen from some dealmakers due to volatility, opportunity arises during uncertainty that many companies have been using to their benefit. Pursuing a deal during a volatile time sometimes results in acquiring targets at a lower valuation. This makes it easier to create total shareholder return when the economy improves. ³ As dealmakers attempt to determine the new baseline after years of volatility following the pandemic, taking advantage of falling valuations in some cases while acting during this downturn will continue to influence dealmaking throughout 2024 until the economic backdrop improves.

Shifting valuations are also causing difficulty when navigating the current markets. However, the valuation gap is showing signs of narrowing. PwC notes that this is beginning to be true for most deals except the largest. In addition, 38% of respondents in Citizens’ survey expect valuations to rise. When breaking down these expectations by sector, Industrials is the most optimistic at 54% while Real Estate, Gaming, and Lodging is the least at 26%. In total, only 19% of respondents expect valuations to decrease. As buyers and sellers become closer in their opinions on price, this could provide a tailwind for dealmaking. Overall, this is a positive signal for M&A activity.

The 2024 election cycle could create a slowdown in transactions as dealmakers wait to see who takes office to have a better understanding of what the regulatory framework may look like.

Another important factor to consider going into 2024 is that it is an election year. S&P Global reports that the 2024 election cycle could create a slowdown in transactions as dealmakers wait to see who takes office to have a better understanding of what the regulatory framework may look like. The Biden Administration has recently made antitrust policy a priority and calling for an overhaul in merger rules. While this hasn’t stopped large deals, it does extend the closing times for these transactions.

If rate cuts do occur, it is important to prepare for a more competitive deal environment as more buyers enter the market.

All eyes should remain on interest rates, market uncertainty, and changing valuations.

Expectations are becoming more positive for the M&A market in 2024. Lingering caution remains due to recent volatility, but most dealmakers see an increase in deal activity likely for 2024. Many companies are more optimistic about their M&A plans as well. Because of this, this year could be setting up to become a buyers’ market. Both parties’ expectations are largely driven by the belief that the economic backdrop is going to become more favorable in 2024 as the Fed may begin to cut interest rates. If rate cuts do occur, it is important to prepare for a more competitive deal environment as more buyers enter the market. When going to market, timing should be at the forefront of deal deliberations because longer deal timelines can come from a buyer-favored environment compared to a seller-driven one. All eyes should remain on interest rates, market uncertainty, and changing valuations as these will be some of the most important hurdles that, once stabilized, could lead to a tailwind for dealmaking.