If you’ve been sitting on the fence trying to decide if the time is right to sell your business, get off of it, local mergers and acquisitions experts say. The next six to 12 months might be the ideal time to sell a business, M&A analysts say. Although market conditions are near-ideal now, they’re likely to worsen in the near future.
Both strategic buyers and private equity firms want to purchase companies now. Multiples, a crucial tool in determining a business’ sale price, are near record highs. Interest rates are still low from a historical perspective. Private equity firms have large pools of money that need to be invested in purchases. Banks are still aggressively lending money to fuel these transactions.
Deals are moving forward at a record pace this year. According to Robert W. Baird & Co.’s 2006 Mid-Year M&A Update, the second quarter of 2006 had the highest amount of activity in the past five years in the U.S., with $425.6 billion in deals made. That total was slightly less than the total deal volume from 2002, the report states.
The M&A market’s performance in the first half of 2006 has almost out-performed the entire year of 2002, said Steve Bernard, director of M&A market analysis for Robert W. Baird. Bernard co-authored Baird’s 2006 mid-year M&A update.
Because there is still high demand to buy businesses, now is the time to take action for owners who are thinking about selling in the near future.
"All situations are different, but I would say that if you have any thoughts of selling (soon), now would be the time to take advantage of it," he said. "There is strong demand for businesses, corporate buyers and private equity firms tripping over themselves with money available. Multiples are huge – on the very high end of historical perspectives. If you have a good business, people will pay for it."
The total number of deals in the first half of 2006 was 5,300, an 8.6 percent increase from the first six months of 2005. Total dollar volume for the period increased 36 percent to $783.6 billion.
Linda Mertz, managing director of Mertz Associates Inc., a Waukesha-based mid-market M&A firm, said her company is on track to close double or triple its normal volume for the year. Mertz Associates has closed six deals so far this year, she said.
"I have a frame of mind to make hay while the sun shines," Mertz said.
Grace Matthews, a Milwaukee financial services company that performs M&A services, valuations and business brokering, has had a record year by the end of June, said Doug Mitman, managing director.
"The market is extremely hot," he said. "Strategic buyers and private equity are pursuing high quality companies. The skies are not going to get any rosier."
Many business owners who were thinking about selling in the late 1990s and early 2000s learned their lessons when they waited too long, Bernard said.
"A lot of them were waiting for a little bump in terms of valuation in 1999 and 2000 and the window shut quickly, and they lost a very good opportunity," he said. "The time is very good now. There is a strong demand, which is driving high valuations, coupled with good economic conditions and good levels of profitability."
Changing Conditions
While many local M&A firms are expecting record levels of deals for 2006, they’re not necessarily expecting those levels to hold for long. Rising interest rates, a potential credit correction looming by banks and lending institutions, and choppy economic indicators are telling these experts that the market may be changing in the next six to 12 months, and not for the better.
"What we’re telling people is if they’re thinking about selling now or three years from now, we’re coaching them on the merits of doing something now because of what’s happening in the markets," said Joe Froelich, managing director with Corporate Financial Advisors LLC, a Milwaukee- and Waukesha-based investment bank and financial consulting firm.
"Things are not going to get better in the M&A markets and they’re likely to get worse. I would say that if you’re considering selling, now is the time to pull the trigger. If you’re considering buying and you’re interested in value, my advice will be to wait 12 months. Prices are going to come down."
William West, an attorney with von Briesen & Roper S.C. who works with clients in the M&A area, agreed. Although he isn’t advising clients to sell their businesses now simply because of market conditions, he says he would tell clients who are thinking about selling in the near future to act now.
"I don’t foresee things getting stronger," he said. "They may hold fast. If anything, they will go south. If I had a client who wanted to get out in one to three years, now would be the time to start looking and gearing it up."
While Mertz acknowledged that the M&A market will likely slow down somewhat in the near future, she is far from predicting doom and gloom.
"I’m anticipating a slowdown, but not a dramatic slowdown," she said. "My feelings on the economy are that a lot of the general population is concerned because of (rising) interest rates and gas prices. But if you really look at what’s happening with profits and growth, the underlying economy is good. I think there will be a credit correction, but I don’t think it will be that severe."
However, Mertz said if she was thinking about selling her business in the next few years, she would start that process now because of how high demand and multiples are, and because interest rates are still relatively low.
"It’s kind of a sure thing now," she said.
Correcting Credit?
The M&A market started heating up in 2003, but many banks didn’t cash in on the early part, Barnard said, because they were still hurting from the earlier collapse of the telecom industry. To compensate, many banks have gotten aggressive with their lending to the M&A community, Bernard said.
"Banks have been shoveling money out the door," he said. "There is a lot of competition in the lending space now. There are a lot of lenders out there with a lot of money to be put to work, chasing a lot of deals and being very generous. At some point, that spigot will be shut off."
Investors and industry analysts are hoping for a gradual slowdown, Bernard said, instead of the sudden slowdown that occurred in the late 1990s.
"That’s what happened last time, and it took two to three years (for banks) to clean out their portfolio," Bernard said.
Banks and other lending institutions have aggressively leant money over the past three years, largely to fuel the rabid M&A market. As some creditors struggle to repay their outstanding loans, some will default. If too many of them default, banks will start to tighten their purse strings.
"There is some general stretching in the marketplace," Froelich said. "There has been for the past 18 to 24 months. As soon as buyers start thinking about it, they will stop stretching so much. Deal prices will lead lending availability – they’re not unrelated at all. And a credit correction is ultimately what will cause a decline in pricing. People will price deals based on what they see, not where they’ve been (historically)."
Private Equity Groups the White Horse?
If banks begin tightening their purse strings and restrict lending for M&A deals, that market could begin cooling off. However, private equity firms still have large amounts of money that need to be invested, which could sustain the M&A market for several years, said Stan Johnson, president of Anderson/Roethle Inc., a Milwaukee-based M&A advisory firm.
"They need to find homes for that money," Johnson said. "We will probably see that the structures of the deals will be different. Multiples will come down and there will be a bigger part (of the investment) in private equity money."
West agreed, saying that private equity firms will help fund M&A deals if banks begin backing away from them.
In fact, private equity investment has totaled 22 percent of deals done in the U.S. for the first half of 2006, Bernard said.
"I think that’s the highest it’s gone ever," he said. "The dollar volume increased 100 percent, to almost $200 billion."
If there were not so many private equity funds with so many large pools of cash to invest, a credit correction by banks could be disastrous to the M&A market, Johnson said, because funding for deals could dry up.
"I think that with the stash of cash that private equity has, it will have a dampening effect on the downward trend," he said. "If you take out the billions or trillions of dollars in the equation, then I could see a situation where the market grinds to a standstill or goes back to record lows. Private equity will help prime the pump."
In fact, some investors in the private equity world might see a down M&A market as an opportunity, said Sarah Peck, chair and associate professor of finance in the college of business administration at Marquette University, largely because they could purchase healthy-performing companies at discounted prices.
"There’s always a set of investors that are more contrarian," she said. "They might view this as good buying opportunities, if they can make equity investments. There’s a lot of private equity money still out there."
Return to Normalcy?
A slower market doesn’t necessarily mean companies that rely on M&A activity will have to struggle. Beagle believes a slowdown will be more of a return to normalcy from the abnormal level of activity in recent years.
"We had a wonderful year in 2002, in a deal desert," he said. "We’re just working on different kinds of deals when things slow down."
Johnson agreed, saying higher interest rates could be offset by lower multiples. And even though present activity levels might not be held, a certain amount of M&A activity is near-constant.
"People, for various reasons, have to transition ownership," he said. "They don’t have much of a choice sometimes."
