There are 3 key indicators of sentiment in the takeover market: interest rates, availability of capital and valuation levels.
If you are a business owner and have been in contact with a corporate finance advisor lately, you will probably have heard that NOW is the time to sell your company. Even the headlines regularly report good news from the merger and acquisition world. But is this really the case? Or, to use the terminology of the old football coach Co Adriaanse, is this a typical example of scoreboard journalism?
There are many factors that determine sentiment in the M&A market. In this article I will limit myself to three important indicators: the level of interest rates, the availability of capital and the valuation level.
First of all, interest rates. The 10-year interest rate has fallen since 2000 and has oscillated between zero and 1% since 2016 [Graph 1]. Even if one looks back longer, it appears that there are historically low interest rates. This has made the financing of acquisition transactions cheaper. A lower interest rate also means a lower cost of capital, which has an upward effect on the value. Although some scholars argue that in determining the cost of capital a correction should be made for these historically low interest rates. Read: the lower interest rate makes the cost of capital "too low" and does not accurately reflect the risk. In practice, all too often the current interest rates are used and the fact remains that borrowing money has become cheaper and therefore better acquisition prices can be offered.
In the search for better returns, a lot of money has been moved to other investment categories. For investment funds, the so-called "dry powder" (the capital funds have freely available for acquisitions) has risen to great heights. In 2016 and 2017, around $200 billion of capital was raised per year for European investment funds*. In previous years, this rose from $39 billion in 2010 to $74 billion in 2015. Add to that the North American and Asian investment funds (around $662 billion in 2017), and we are talking about the unimaginable amount of around $862 billion in 2017. These funds need to be invested and the upward trend in recent years indicates that the pressure to invest has increased sharply.
The lower interest rate and the greater availability of capital are also reflected in the development of the number of transactions and the total deal value. Although in Europe the rising trend in the number of transactions is barely noticeable, certainly in comparison with North America and Asia. In terms of deal value (expressed as EBITDA multiples in this article), however, the rising trend is visible on all continents. For the so-called leverage buy-out transactions (LBO) in Europe, the EBITDA multiple rose from 7.7 in 2010 to more than 10 in 2017**.
But this brings us to the most difficult part. Often, not all deal values of a transaction are available. And when they are available, it more often concerns the somewhat larger transactions and/or relates to transactions of listed companies. This alone has a distorting effect. In addition, large variations can be observed between types of transactions, but also between sectors.
"Ok, nice", I hear you thinking. "But how do I know if I should wait or if the top is reached?" The real answer is, you don't. It is a trade-off between "wait", so that hopefully the growth of your company will have translated into a higher EBITDA, and "go for a sale in the current good market conditions". Whereby perhaps a higher EBITDA multiple applies now than in a few years' time.
In any case, it is important to reflect on this consideration and to be aware of the factors described. Instead of looking at the "scoreboard", take a good look at the developments in your own market segment, the state of your own organisation and your personal ambitions and wishes.
Selling (part of) your own business? Click here for more information on selling your business.
* Source: Preqin
** Source: Thomson ONE
Click here for the full article on Brookz