Winning through M&A in uncertain economic times

The capital available for deals usually dries up during a downturn. This time may be different, with companies better able to explore inorganic growth.

The outbreak of coronavirus (COVID-19) was an exogenous shock hitting economies and stock markets globally. Conventional wisdom holds that mergers, acquisitions and other deal activity will likely plummet with the economy, especially after record highs in M&A volume and a wave of stratospheric transaction values in recent years. Concerns of a steep drop-off are understandable. That is what happened in the global financial crisis, and the dot-com bust before that.

But the expectations of M&A’s demise may be exaggerated. While annual deal volume in Switzerland has declined since 2017, fears of a full collapse similar to previous cycles may be premature. In short, a combination of factors has been driving a decoupling of deals from the broader economy. That decoupling is different from past cycles, providing a higher floor that should prevent deal activity from plunging.

With this anticipated resilience, prepared corporate and private investors should not retreat in the next downturn. As our research shows, organisations that are opportunistic with deals in a recession actually could outperform their industry peers.

Although M&A declined during the dot-com bust, a PwC analysis found that companies that made deals during the downturn ultimately saw higher shareholder returns than others in their industries.

Past M&A cycles and economic recessions

Deal volume declined substantially after the past two downturns, taking several years to recover

A structural shift in deals and capital

The big reason for this decoupling is capital—the funding that companies can call on for deals. From cash on corporate balance sheets to undeployed capital at private equity firms and low interest rates for borrowing, investors are in a solid position. The money available for M&A, whether it is already in a buyer’s hands or within reach through a favourable lending environment, is real and substantial, PwC’s analysis found.

Megadeals—transactions of at least USD 5 billion—illustrate how companies with ample resources are willing to make aggressive moves. This structural shift, compared to a cyclical trend, should not change significantly—even if the economy slows. But, for some decision-makers it may require a psychological shift and a degree of confidence that may seem counterintuitive in a downturn.

An eye on valuations

Declines in deal volumes in 2019 are largely due to high valuations, which have kept some buyers on the sidelines. Our analysis shows that transaction multiples tend to fall along with the economy, resulting in more attractive valuations. The pool of acquisition targets should swell as it typically does in a recession, with pieces of companies or entire organisations adding to the M&A supply.

But the ability to buy—a key part of demand for M&A—will be stronger than in past downturns, thanks to both the level and mix of capital. Theoretically, this would imply that valuations might stabilise rather than dip during a downturn. Critically, however, not all potential acquirers will be in the same position. An economic downturn tends to impact marginal players—those that have not taken action to realign their business, shore up their balance sheet and address other key areas—and turn them from prospective buyers into potential sellers.

What is driving capital that could be used for deals

$2.5 trillion

of private equity dry powder – highest ever

$1.1 trillion

in cash on European corporate balance sheets—highest ever

-0.75%

Swiss National Bank rate— negative rates since January 2015

$2.8 trillion

corporate bonds outstanding at European nonfinancial corporations

What you need to know to get ready

The view that acquirers should be aggressive in a recession is contrary to conventional wisdom. But it is shaped by an understanding of what propelled past M&A cycles—the historical relationship between M&A and various economic and financial drivers—and what is different today. In this series, PwC will share analysis and insight that explains this decoupling of M&A from the economy and outlines how investors can prepare to explore deals during periods of economic uncertainty.

M&A cycles: Fundamental drivers and valuation impacts

Like the economy, M&A moves in cycles. The fundamental drivers and influences, and the related returns, are constant and include buyers motivated by growth strategy, capital enabling the transactions and economic conditions. But the specific features of each M&A wave can differ significantly—from the sectors involved to the typical deal structure and the players in the field. Private equity, corporate cash and other borrowing have contributed to a substantial shift in funding for deals in the current cycle. And an analysis of shareholder returns in between the waves shows how deals launched during a downturn may be an opportunity for growth.

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The state of capital for M&A, and how it could change in a downturn

The amount of funding available for deals is larger and more diverse than ever. Volumes have been driven by the “global saving glut” and the mix has shifted from public to private. This capital is not spread evenly across industries, companies and private equity firms, and not all of it will likely hold up in an economic downturn. But even if some funding sources decline, many corporate and private acquirers will be able to call on capital for strategic investments.

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How to prepare for successful M&A in recession

They may have the capital for deals in a recession, but companies, private equity firms and other investors need to take decisive steps now to ensure they maximise their chances of having successful bids and realise the benefits of those transactions. From improving operations to reducing costs to updating growth strategies, how you position yourself today is critical for winning through M&A in uncertain economic times. That means having the right tools to assemble a deal that will deliver value after the downturn.

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