By Maurie Cashman
I attended the Iowa M&A Market Update last week and thought it would be timely to review some of the discussion. The conference was attended by about 250 people from 7 mostly Midwestern states. Attendees included primarily advisors, lenders, business owners and private equity groups. Most had been involved in significant transactions experiences.
Buyer â€“ Seller Balance
The mood was generally quite upbeat and the consensus seemed to be that there were far more buyers than there were good companies to purchase. As you can see below, there is a general imbalance in the market that would indicate a sellerâ€™s market exists at present.
As you can see, there was a drop in the number of transactions completed involving companies being sold and there has been a trend of increasing interest on the part of buyers in Midwest companies that has been building for some time. The imbalance in buyers and sellers is creating more competition for the businesses being offered. This is true for both strategic and financial buyers as both have plenty of cash to invest and there are not great alternatives given the level of the stock market and the low interest rate environment. As these groups pile up case through operations or by divesting of some of their holdings, they are unsure of where to employ the proceeds. A general lack of confidence in future stability is exacerbating the situation.
The general tone was that valuations are high right now, although the graph below does not necessarily reflect that. Keep in mind that these valuations are for companies that have revenues of $10 million to $10 billion so this is directional information. This graph disguises some things happening in the marketplace. Cash-flow, as measured by EBITDA has improved significantly. Since EBITDA is now a higher percentage of sales, it is skewing that value to sales ratios. This is resulting in some fluctuations in valuations based on cash-flow since buyers are concerned about maintaining cash-flow if sales cannot be maintained or increased, particularly given the low comparables of the past several years.
Sellers are often being stretched to receive these higher multiples as a result of this uncertainty. Many are being asked to provide partial financing, take earn-outs and post-closing escrow â€œbasketsâ€ have been increasing in some cases to compensate for these uncertainties.
Finally, it is wise to use a jaded eye when looking at a particular measurement. There is no context provided to this transaction data so we do not know the details behind each one. There may be significant terms involved in the transactions other than price that are very difficult to quantify. Remember, â€œfigures donâ€™t lie but liars figureâ€ and â€œthe devil is in the details.â€
Mistakes Are Being Made
Sellers are over-confident in the current market and are either not selling into the opportunity or are testing far too small of a market sample. With the imbalance that exists it is not as difficult as it has been in the past to find buyers, but sellers may not be finding the best buyer when they are simply marketing their business to buyers that are known to them.
Many companies do not have succession plans in place and they need them. Sellers must have controlled processes in place and reasonable expectations to get top dollar. Many sellers are going to market without having prepared the business. Doing advance due diligence through a transition planning process can prevent the buyer from â€œwalking downâ€ the value of the business from a high offer to a low closing process by finding problems in due diligence. This can be avoided by employing an ownership transition planning process.
If we look at the chart above we can draw a few conclusions.
First, deal volume globally was much higher heading into the recession than it was in the U.S. The financial meltdown was truly a global phenomenon and not simply a U.S. one.
Second, deal volume in the U.S. is returning to a much stronger level relative to the total market than it has been in some time. This is likely due to a few factors. First, lenders are finally getting healed up and beginning to loan more money. There was a definite tone at the meeting that lenders have money and they want to put it to work. Second, the U.S. economy is seen as much stronger and likely much safer than the emerging markets that drove a lot of transactions in the past. Those markets are suddenly looking far riskier with China slowing, Russia returning to its shenanigans, the Middle East going through its cyclical upheaval and Africa continuing to destabilize.
My overall takeaway from the conference (understanding that there were many buyers in the audience) was that there are many factors that make this a good time to sell if one is considering it, and probably will be for awhile yet. Companies should be making plans and decisions to prepare their businesses and watch out for an exogenous shock that could send markets tumbling again. Times may be getting better but it is also no time to get greedy.