-Insight from Grace Maral Burnett
2019 Deal Drivers and 2020 Outlook
M&A had two stories in 2019: the first half of the year, deal volume was down a bit from prior years, but finished up strong. While volume was down, the size of the deals increased. Likewise, valuations have increased significantly in recent times, and maybe to levels that are unsustainable. That could have implications in terms of what 2020 and beyond look like.
The deal drivers for the last couple of years have been fairly consistent.
- Economic growth is fueling optimism about using M&A as a strategic tool to bring growth to businesses.
- Technology disruption – we’re seeing the blurring of lines between industries as technology goes everywhere and new tech-enabled business models are developed. That’s bringing a lot of sector conversions. For example, the mobility companies and technology, like ride-sharing apps Uber and Lyft, coming in on traditional mobility players like taxi services.
- Internet of Things (IOT), AI, and cloud-based technologies are becoming pervasive across sectors. Corporates are seeing the need to invest in them. They can’t easily produce the tech quickly in-house, so they go out and buy it by acquiring companies.
- We have a record level of dry powder, in terms of cash in corporate bank accounts and PE buyers. The PE buyers have increased their level of cash on hand by about 75% in the last five years, and they are aggressively investing as well as exiting their investments, bringing them even more cash. Because of that level of cash, we’re seeing a lot of cash deals.
- Shareholder activism – boards are being pressured to restructure and divest nonperforming assets. I’ve seen in my own practice a huge increase in divestitures across the board. PEs are looking at high valuations and seeing good opportunities to cash out of businesses they have acquired.
-Insight from Lynda Twomey
[Take a look at the corporate transaction market evolution in 2019 through data and Bloomberg Law analysis.]
In terms of the outlook for 2020, there is optimism that M&A deal drivers will continue, but that is tempered by headwinds.
- Are high valuations sustainable? Investors are starting to question whether the amounts being paid are warranted and are bringing the value that management teams are hoping for. Valuations are getting to such a high level that we are almost at the top of what people are willing to pay. Could that be a dampening factor?
- A lot of action in the regulatory space – The DOJ is now aggressively challenging vertical mergers. We saw their court challenge to the AT&T-Time Warner Deal. They lost that, but they have said they’re not going to back off these deals that they don’t see as being in the consumer’s best Congress is focused on big tech right now. It’s under an antitrust microscope pretty much everywhere, with politicians at the federal and state levels advocating for the breakup of big tech and changes to antitrust laws.
- Threat of economic downturn – There are also concerns about an economic downturn. If we go into a recession, I think we’re still going to see M&A chug along. Valuations will come down, and the corporates and PEs will see opportunities in assets that come down in value.
- Trends in representations and warranties
- There’s a major focus on privacy, with GDPR and now the California Consumer Privacy Act coming into effect in January. Data security and privacy are huge areas of focus for buyers, probably the number one new concern. Reps on privacy and data security have gone from two paragraphs to pages in terms of compliance and seeking disclosure on breaches.
- Survival period for nonfundamental reps and warranties is still within around 12-18 months but trending toward the shorter end of the range.
- We’re seeing a very large increase in the use of reps and warranties insurance by buyers, particularly in the PE space. The insurance policy is essentially replacing the indemnity from sellers. That’s very attractive to sellers and, I think, has been adopted by PE funds to be competitive.
- Increase in indemnity deductibles, decrease in indemnity caps – 74% of 2018 deals featured deductibles rather than first dollar recovery baskets. This is a significant increase over recent years. Indemnity caps that would have been in the 15% range a year or two ago have recently been in the 10 to 12% range.
[There’s a reason for optimism about corporate transactions. Download this report to learn the trends financial analysts are watching closely.]