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Reflecting on M&A Slowdowns & Their Economic Impact: Insights for Private Equity Sponsors

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In the fast-paced world of private equity, M&A drives growth, value creation, and portfolio optimization. These deals not only reshape industries, but also impact and reflect broader economic trends. However, throughout history, several cycles where significant slowdowns in M&A activity - each with their own unique causes and consequences for sponsors – have taken hold of the markets. Bain & Company’s 2024 Global M&A Report summarizes the past year with a common theme: Turbulent times produce strategic winners and losers. Keeping this in mind, let's examine nuances, consequences, and potential solutions to help sponsors optimize market conditions and understand factors contributing to downturns in M&A.

The Cycle of M&A Activity

M&A activity is intricately tied to market dynamics, investor sentiment, and economic conditions. During periods of economic expansion and favorable market conditions, M&A activity surges as sponsors seek value-creating opportunities, market consolidation, and strategic exits. Conversely, during economic downturns or uncertainty, M&A activity often slows as sponsors adopt a cautious approach, focusing on risk mitigation and portfolio optimization. In 2023, the Bain & Company Report notes that total M&A activity dropped by 15%, marking the lowest level in a decade. Furthermore, strategic M&A declined by 6% due to challenges in bridging valuation gaps between buyers and sellers.

Historical Slowdowns: Causes and Impacts

  1. Economic Downturns:

    During recessions or economic downturns, sponsors often face challenges in deploying capital as they navigate volatile markets and economic uncertainty. M&A activity tends to decline as sponsors prioritize capital preservation, focus on distressed opportunities, and await favorable market conditions for strategic exits.

  2. Regulatory Changes:

    Shifts in regulatory environments can significantly impact M&A activity for sponsors. Heightened regulatory scrutiny or changes in antitrust policies may create hurdles for deal execution, delay transactions, or necessitate restructuring strategies to ensure regulatory compliance.

    In 2017, the anticipation of potential changes to tax policies under the Trump administration that included including lower corporate tax rates and tax repatriation incentives, influenced M&A activity. Companies considered the potential impact of tax reforms on deal economics and transaction structures, leading to delays in deal announcements and negotiations.

    Around the same time, the European Union’s implementation of the General Data Protection Regulation (GDPR) had a significant impact on M&A activity involving companies with operations or customers in the EU. Acquirers faced increased scrutiny regarding data privacy compliance and potential liabilities, leading to more extensive due diligence processes and negotiations in deal transactions involving data-rich companies.

    Fast-forwarding to 2023, the Bain Report discusses the impacts of Generative AI and that, while only 16% of M&A deals are currently using AI, that figure is expected to increase to 80%+. This will almost certainly result in regulatory initiatives that sponsors might not be prepared for, which in turn, can delay or pause M&A activity.

  3. Geopolitical Uncertainty:

    Geopolitical events, such as trade disputes, geopolitical tensions, or policy shifts, can inject uncertainty into the investment landscape, affecting cross-border M&A activity. Sponsors must navigate geopolitical risks, trade barriers, and market disruptions to assess deal viability and mitigate potential risks to portfolio investments.

    We’ve seen this uncertainly in recent years, specifically as it relates to the US-China Trade War. Companies, particularly in the technology and manufacturing industries, have faced increased uncertainty regarding supply chains, market access, and regulatory risks. As a result, some companies and sponsors have postponed or scaled back M&A activities involving Chinese counterparts, awaiting clarity on trade policies and market conditions. Similar impacts have come from the uncertainties surrounding the Ukraine/Russia war, as well, with global increases in energy prices and supply chain disruptions.

Economic Ramifications

The causes and impacts of M&A slowdowns we discussed above certainly affect private equity investments, but also result in widespread ramifications for the global economy that directly impact the global economy. Here are a few examples:

  1. Stifled Innovation and Growth:

    A slowdown in M&A activity can hinder industry consolidation and innovation, limiting opportunities for sponsors to create value through strategic acquisitions, market expansion, and operational synergies. Portfolio companies may face challenges in pursuing growth initiatives, accessing new markets, or leveraging transformative technologies to drive innovation.

  2. Labor Market Impact:

    M&A activity often triggers workforce restructuring, including layoffs, relocations, or organizational changes. During slowdowns, sponsors must navigate labor market dynamics, address employee concerns, and implement strategic workforce planning initiatives to optimize operational efficiency and drive long-term value creation.

  3. Capital Allocation and Investment:

    A decline in M&A activity may signal a broader reluctance among sponsors to deploy capital for new investments, portfolio acquisitions, or add-on acquisitions. Sponsors must assess market conditions, evaluate investment opportunities, and deploy capital judiciously to maximize returns and mitigate downside risks amidst economic uncertainty.

Leveraging Sale Leaseback Transactions

Amidst M&A slowdowns, sale leaseback transactions present an attractive opportunity for sponsors to unlock value from real estate assets within their portfolios and take some “chips off the table” without having to sell the business. By monetizing owned properties and entering into lease agreements with buyers, sponsors can return capital to investors, optimize capital allocation, enhance liquidity, and strengthen balance sheets to support strategic initiatives and value creation objectives.

Final Thoughts

Historical slowdowns in M&A activity underscore the importance of resilience, adaptability, and strategic foresight for sponsors navigating through uncertain market conditions. By understanding the underlying causes and economic ramifications of M&A slowdowns, sponsors can position themselves to capitalize on emerging opportunities, mitigate risks, and drive long-term value creation across their investment portfolios.

For more information about the road forward, we recommend giving Chelsea & Nina’s article: “Looking Ahead: How the 'Big Backlog' Will Shape the Future of M&A” a read.

Finally, if you are interested in learning more about the sale leaseback, we invite you to enroll in our newly launched (and free!) education course HERE.

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