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Uncertainty was one of the themes for mergers and acquisitions (M&A) going into 2020. Slow economic growth and geopolitical tensions weighed on the minds of economists and business owners, with the threat of a potential recession being a concern after several years of strong growth. On the other hand, there were still record low interest rates and investors looking for the right opportunities. Buyers were becoming more cautious in evaluating deals, but they were still willing to pay a premium for the right opportunities.
In hindsight, no one could have predicted the magnitude of the uncertainty the world faced in 2020. Throughout the year, society and the worldwide economy was transformed due to COVID-19. To cap it off, the year ended with political turmoil arising from the US elections and Brexit. This uncertainty led to successful and unsuccessful players in the M&A market.
Representing both purchasers and vendors, Smythe Advisory was involved in nine transactions that closed in 2020. All nine transactions closed after the initial COVID-19 lockdown and we did not observe a decrease in total price compared to pre-COVID metrics in any of the transactions, although four of the transactions included an earn-out.
Each target business shared some, or all, of the following attributes that made them safe investments for the purchaser:
The nine transactions were split by industry as follows:
Representing both purchasers and vendors, we were also involved with transactions that did not close in 2020. 75% of the unsuccessful transactions were paused or died due to unsatisfactory financial performance. These target businesses were all under $6 million enterprise value and the majority of the businesses were in industries with some negative COVID-19 impact.
In the lower end of the M&A market, the economic uncertainty caused by COVID-19 dried up the pool of potential purchasers. Aside from strategic purchasers, this market segment typically sees entrepreneurial purchasers looking for a single business to own and operate. These purchasers do not have the security of deep-pocketed institutional investors backing them, so they have a low margin for error in their investment. Due to the economic uncertainty, we saw this class of purchasers become even more selective in 2020.
On the other hand, for larger transactions, family offices and private equity investors who are positioned to withstand temporary downturns were less hesitant to execute acquisitions in industries that were negatively impacted by COVID-19, particularly as valuations became favourable and the industry was expected to rebound.
Until there is a vaccine in place, we are predicting much of the same for 2021 – the only thing we are certain about is that we will face even more uncertainty.
We expect to continue witnessing the same split between ‘safe’ businesses and ‘impacted’ businesses. We also expect to continue seeing strong demand for well-run, profitable businesses that purchasers perceive as safe investments. For these businesses, the negotiating leverage will be held by the business owner with multiple offer situations still being common.
For businesses not in the ’safe’ category, we expect to see two different dynamics playout depending on the motivations of the business owner. The first is business owners that are not compelled to sell. These will be businesses that have seen a drop in financial performance due to COVID-19, but they are still profitable with the help of government relief programs. These business owners still have energy to keep going and are not willing to take a discount on pre-COVID-19 prices, so these businesses will be taken of the market until there is more clarity on the future outlook.
The second is business owners that are motivated to sell. Whether due to financial or emotional considerations, the business owners are willing to take a discount to get a deal done. These businesses will attract interest from purchasers who believe they can get a good deal and turn the business around. For these businesses, the negotiating leverage will be held by the purchaser. We expect to see more business owners fall into this category the longer the uncertainty continues.