The Post-Pandemic Future for M+A Activity

The Anatomy of a Deal Newsletter

Each month, Eric Duffee looks at a different piece of The Anatomy of a Deal – a series of easy-to-digest articles that break down complicated aspects of business transactions – helping you better understand terms + processes that can shape the direction of your business.

This piece is a collaboration with Bill Levendusky, an associate M+A lawyer at Kegler Brown who is working with business owners and corporate development professionals to plan their post-pandemic deal strategies.

Smart Summary

  • There will likely continue to be very little M+A activity in the short-term outside of distressed transactions.
  • Private equity cash, eager investors, a solid pre-pandemic economy, and aggressive government stimulus set the stage for M+A to rebound.
  • A true recovery will be inherent in improvement in economies abroad, progress in the treatment of COVID-19, and the successful re-opening of local economies.

With the world economy in free-fall, it seems odd to be talking about the future of M+A activity. But there is reason to believe that M+A activity will rebound in the medium-term. So this month, we look at some of the reasons why deal volume may be poised to rally, and the signs we’re looking for to see when that improvement might occur.

Why do we think a rebound is coming?

First, let us emphasize that there are a lot of factors at play here. As such, it’s very hard to make any firm conclusions.

In addition, we’re looking out a few months; there’s likely not going to be much conventional M+A activity in the short-term. There may be some distressed transactions (as we discussed last month), but many voluntary sellers—and the buyers who are interested in these targets—are waiting for some clarity and stability before jumping in.

So with all the bad things happening now, what are the good things we see?

A Mountain of PE Cash
Private equity funds still have large capital stashes and are required to deploy that “dry powder” within a certain time period. So private equity funds are going to be aggressively looking for good deals.

A “First-Mover” Advantage
There has been some research as to whether buyers that jump into the M+A market earlier following a recession achieve better long-term results, and, although it’s not entirely conclusive, there is enough reason to believe that this potential will lead at least some buyers to test the M+A markets early on.

Solid Pre-Pandemic Economic Indicators
The economy was largely in good shape prior to the COVID-19 crisis. And while the timeline isn’t clear right now, the immediate public health threat will subside at some point in time. While there will be lasting damage to the economy, there is some hope that economic conditions could improve later in 2020 and continuing into 2021.

Governments Pumping Liquidity into the Economy
We’re not economists (but we did stay at a Holiday Inn Express last night). That said, it doesn’t take a Ph.D. to see the massive amounts of stimulus and financial support being provided by world governments to respond to the crisis. Consumer spending in the U.S. (which accounts for approximately 70% of GDP) fell almost 9% in March, but the ongoing government stimulus should theoretically fill in for at least some of that loss. While there will undoubtedly be companies that don’t survive “The Great Pause,” there is hope that the government support will help most businesses weather the storm and be positioned for a rebound.

What are the signs we’re looking for in a recovery?

After the Great Recession of 2008-2009, we could all look back and agree that we should have invested a bunch of money into the stock market on March 6, 2009. So, if a relatively quick recovery is in the cards as we hope, then how will we know it’s coming?

Before we answer that question, it’s worth noting that traditional economic indicators—those charts from 2009-2010 that showed clear trends indicating that the country was emerging from the Great Recession—may not be as useful or as easy to project as they were a decade ago.

Unemployment is considered among the most reliable traditional metrics when measuring the strength of the economy. During the week ending April 11, 2020, “Seasonally Adjusted Initial Claims for Unemployment Insurance,” according to the Department of Labor, numbered 5,245,000. The record for Unemployment claims in one week, prior to the COVID-19 crisis, was only 695,000, set in October 1982. During such extreme times, traditional metrics may prove less helpful.

If the darkest hour is truly just before dawn, here are some of the signs we’re looking for to see when we’ve reached that point:

Improvements Overseas
As many parts of the world—specifically China—began their response to the virus much sooner than the U.S., those regions will provide the first testing ground for determining how and whether economies can start functioning again. As China has begun to “re-open,” there are already reports of an uptick in M+A and investment activity there.

At the same time, emerging markets, which often depend on foreign investment and tourism dollars, have been hit hard during this crisis. According to the Institute for International Finance, the economic impact of foreign capital fleeing emerging markets since January 21, 2020, may be three times worse than during the Great Recession. Investor confidence in emerging markets may be a key indicator of recovery, particularly with an eye toward those countries that were more effective at controlling the spread of COVID-19.

Progress in the Fight against the Coronavirus
One of the best ways to bring about a quick change in economic conditions is for a medical breakthrough, such as a proven treatment for the virus that can provide a safeguard until a vaccine becomes available. Even if that doesn’t happen, some sustained success in avoiding a spike in new cases will be viewed as a win and start to restore investor confidence.

Reopening of States and Local Economies
While some states, such as Ohio, New York, and Texas, have announced plans to gradually re-open their economies, the process will undoubtedly be slow-moving. Ohio and Texas have announced plans to re-open in phases by business sector and New York has announced a plan to re-open in phases by geographic region.

As states open their economies, look for consumer spending and wage growth to be on the move. Those factors—and how quickly the changes occur—may provide some insight into the U.S. economy’s health.

This is uncharted territory for everyone, but there’s still reason for some optimism as of now. We continue to have numerous discussions with clients who are planning to move forward with transactions in the summer and fall. The coming weeks and months will be critical in determining how successful the rebound will be, and when we can expect it to occur. If fortune truly does favor the bold, then there may be some improvement on the horizon…at least we hope so.

In May’s installment of Anatomy of a Deal, we will test this issue’s theories about market rebound and attempt to help owners track their business’s recovery against the economy more generally.

Next Month: I'm Still Standing. Now What?

Read last month’s piece: Crisis Demands Creativity in M+A