Can M&A Still Thrive if Our Economy Slows? History Tells Us M&A Slows During a Recession, But This Time May Be Different
Downturns are historically terrible for M&A, but there are reasons to believe that may not be the case during this recession. Markets have shown an unfortunate ability to accelerate deal values and velocity at the top of the cycle, followed by extreme drop-offs during recessions. For example, in late 2002/2003, when the Nasdaq was sitting at roughly 25% of its peak value, global tech M&A was only around 18% of its high from the same period. In 2009, when equity values declined between 40–50%, deal volume fell by nearly 66% percent.
Today, venture capital funding is starting to slow, and pullbacks in equity value are hitting tech companies unevenly in the public markets. These two factors might seem to be a catalyst for M&A; for example, the long-rumored Alphabet acquisition of Lyft would be a much bigger relative bargain now. Acquisition targets that were previously too pricey or had too many lucrative private funding options might now entertain an offer. While this historically has not been the case, there are a few key reasons to believe things may be different this cycle, and that M&A may be relatively more robust:
- The largest tech acquirers are more cash-rich than ever:
According to The Information, as of December 2019, Apple, Alphabet, Amazon, Facebook and Microsoft had $570 billion in cash and investments on their balance sheets. With industry-leading ROEs (return on equity), it hasn’t always been easy for these businesses to find accretive acquisitions. However, if marginally more attractive pricing causes these large acquirers to dip even slightly more into their cash-piles, it would more than offset an expected decline in M&A.
- Tech has suffered a much smaller decline in the public markets:
As a company’s share price is plummeting it’s challenging to consider, much less convince, shareholders of the need to make an acquisition. With the bursting of the tech bubble in the early 2000s and the global financial crisis later in the decade, steep and prolonged equity downturns helped to freeze the M&A markets. Thus far, this crisis has seen a relatively sharp drop followed by a steep recovery that leaves share prices for likely acquirers in far better shape. Companies may keep their M&A pipelines open if overall equity declines remain modest (a big if!).
- Private Equity cash sits at record levels:
In 2019, Preqin estimated that private equity firms had nearly $2.5T in dry powder with which to buy companies, a more than 5x increase over 2000, and a 2.5x increase over 2009. With more attractive valuations, this record cash pile could be put to good use by financial acquirers in the near-term.
- Access to cheap debt financing is available:
Unlike the global financial crisis where markets seized up and credit was unavailable to finance deals, today the gears of the financial markets continue to hum along. With unprecedented action by the Federal Reserve to keep credit markets functioning, and interest rates set at zero for the foreseeable future, both strategic and financial acquirers should have access to cheap debt to fuel M&A throughout the downturn.
While we are in the early innings of this crisis and we will learn much more over the coming quarters, I believe the uniquely supportive environment for M&A will prevent the types of declines we have seen in previous recessions. What do you think?