M&A activity is bouncing back strongly in the aftermath of COVID-19, with new opportunities emerging amid the new normal. But challenges remain, with travel restrictions and economic nationalism muddying the waters.
In September 2020, the Financial Times reported that a strong resurgence in mergers and acquisitions (M&A) activity had fuelled the busiest summer for deals for 30 years, with private equity firms putting record amounts of dry powder to good use.
According to figures from Refinitiv, the combined value of $5bn-plus deals globally rose to $456bn in the three months to September, making it the busiest third quarter on record as bankers and executives reshaped and restructured companies in the aftermath of the COVID-19 outbreak. The most prolific month was September, when 73% year-on-year growth saw total deal value reach $391bn.
In order to properly analyse this resurgence, TMF Group teamed up with Mondaq to deliver a webinar looking at the challenges and opportunities facing corporate and private equity deal-makers in the M&A market. Moderated by TMF Group CEO Mark Weil, a panel of industry experts discussed how carve-outs have become increasingly popular and how pent-up demand, distressed assets, and fluctuating valuations have encouraged firms back to the deal table.
The panel included Gordon Chin, Corporate Vice President – Legal, Envision AESC; Dominic Orchard, Managing Director, Alvarez and Marsal; and Ian Bagshaw, Partner, White & Case.
Assessing the impact of COVID-19
"I'm based in Shanghai, and at the end of January, people were excited about the upcoming Lunar New Year and getting ready to go home to celebrate," said Chin. "Then COVID-19 hit and the economy shut down. M&A teams within corporates were quickly repurposed to seek liquidity – for many, new deals were the last thing on their mind, and those who could have made deals in the first half of the year didn't want to look overly opportunistic."
"It was very hard to justify going on an M&A expedition; companies needed to first solve the liquidity issue and restructure existing deals. It was also difficult to price deals given the volatility that we're seeing, and we're only just seeing a small uptick in Asia now."
Asia has indeed seen more restrained growth, with European and mainly US deal-making leading the rebound.
Refinitiv's figures show that M&A activity in the US alone totalled $415bn in the third quarter, more than three times the volume in the second quarter of the year.
"We were running a very healthy M&A pipeline," said Orchard. "When COVID-19 hit Europe and the US, transactions initially dropped overnight, and firms instead focused on managing and supporting portfolio companies."
"However, there are lots of businesses that still have great long-term prospects. Many of our clients, having learnt lessons from the 2008 crisis, quickly identified opportunities to do well-priced deals, and by mid-May the transaction pipeline returned and returned in full. We expect the next few months to be as busy as ever. Paused deals have been restarted and corporates are under pressure to adjust their portfolios to align with new strategic priorities or raise capital."
Picking a winner
"The market is becoming much more segmented," said Bagshaw. "There's Covid-accelerated businesses, which are online, data-enabled businesses of the future – the likes of Hut Group and Allegro, whose valuations are prompting IPOs that move them away from the private equity space. Then there's Covid-resistant companies, which have seen a drop but are now coming back strongly. These are good businesses to invest in. Finally, there are Covid-damaged businesses, such as physical retailers and travel companies."
Ambitious private equity firms and corporates are now looking for opportunities with logistics firms, online gaming companies, and other Covid-resistant businesses. And it's no surprise that technology deals have just had their best quarter in terms of value since records began, with $226bn worth of deals struck in the three months up to September 2020.
"Investment committees are working out how to do deals in a new world where physical diligence is scarce," added Bagshaw. "This is easier for companies with a global presence, but smaller, localised firms will struggle with international travel and meetings hampered by COVID-19. But it's an exciting, entrepreneurial time."
"Whereas after the 2008 crisis, the best deal firms did was the one that they didn't do, people are now seeing opportunities everywhere with companies in distress or transitioning into more viable, digital businesses."
As such, values will rise and fall at a great rate and the challenge for ambitious private equity firms and corporates is to spot the winners. "It's a time of volatility and opportunity," agreed Orchard. "There are some big transactions coming down the pipeline. They're not straightforward deals, but the great thing about private equity as a model is that it's reactive, and can explore carve-outs of under-loved assets at the larger corporations. There's lots of potential in the market for brave, adventurous, and flexible firms."
Overcoming cross-border challenges
As highlighted by the panellists, there are still challenges to be overcome. Cross-border deal-making has taken a big hit, with the pandemic stifling travel and prompting nationalist economic sentiment in some jurisdictions.
These new pressures have added to existing issues. Cross-border carve-outs, an independent market research study commissioned by TMF Group in April 2020, revealed that a significant number of deals still take too much time: 19% of corporate respondents and 24% of private equity firms said that their most recent deal took longer than expected. Such delays can push up costs – by an average 16% of deal value for overruns longer than four months, according to the study.
"Meeting in person is very difficult now, and the cultural component is such a vital part of M&A deals," explained Chin. "When you first enter into a deal, there's a set of assumptions that may not always pan out, and you have to face reality once the deal is closed. Expected synergies are not always possible and post-merger integration can be a tough couple of years."
"Cross-border deals are mostly driven by the HQ office, and the regional offices can become disconnected or lack the spare capacity and skills to help drive change through," added Orchard.
"Understanding cultural differences is essential when operating across regions. Even within Asia, each country is very different. For example, in Hong Kong a meeting can be set up within 30 minutes, while in India it can take two days, and in China you're looking at a week."
Streamlining deals is therefore crucial. "Time finds issues," said Bagshaw. "The longer the process, the more uncontrolled it becomes. Do you always need a meeting? Tech investors are often happy to invest without pressing the flesh in person. You also need to identify new risks at the outset to avoid them popping up further down the line – data sensitivity, for example, is a relatively new strand of risk, so make sure that you carefully consider cybersecurity and the data management issues that go with it."
The panel highlighted the growing trend of hiring a 'Chief Integration Officer' as a way of streamlining things; a c-level executive hired to solely focus on ensuring the success of an M&A deal, with KPIs and remuneration linked to successful integration. That way, the business is all on the same page, working to a single plan with a single owner.
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