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Significant movements in M&A have characterized the past several years. This journey began with a pandemic-induced slowdown, swiftly succeeded by a spike fueled by pent-up demand. That momentum was curtailed in 2023 due to the impact of higher interest rates. In 2024, deal market activity has somewhat normalized as market participants come to terms with a higher-for-longer interest rate environment and lingering concerns about inflation and economic growth, especially if monetary policymakers maintain overly restrictive measures for an extended period. 

Dealmaking is showing signs of a resurgence in the first half of 2024, albeit with muted volume—at least relative to 2021 and 2022. Uncertain economic conditions and a persistent expectations gap between buyers and sellers somewhat circumscribe the characteristics of deals that are closing.       

Market Activity & Dynamics

Private company M&A deals are estimated to have landed at $706.3 billion in 2023, according to Pitchbook. That compares to $919 billion in 2022 and $1.248 trillion in 2021 when the market reopened after the pandemic. Through the end of March, $145 billion in deals closed, reflecting a return to a longer-term trend line and cycle. 

Multiples are showing significant variability based on:

• Industry, with services, technology, and healthcare deals generally higher than cyclical businesses such as consumer and retail;
• Deal size, with larger companies generally commanding higher multiples and;
• Deal strategy, with “platform” deals, where a purchaser is buying a stand-alone business as a platform for future acquisitions and larger strategic deals priced on the higher end of the spectrum.
• Investment Quality, with higher-quality assets attracting more potential buyers and higher prices.

However, to generalize, multiples are higher today than in the recent past, with the typical private company changing hands at about 7.5 times EBITDA over the last year or so versus about 6.5 times in the decade preceding the pandemic. These multiples reflect pricing for both platforms and add-ons. Platforms typically have higher multiples, while add-ons are lower.  

Acquirers are being more judicious in their use of leverage, with deals (platforms) tending to come in at 3.5 to 6 times versus certain deals, especially in the tech sector, 8-10 times before the pandemic. 

With respect to deal strategy, add-on investments have remained quite active as investors have sought to bolster their existing portfolios by acquiring smaller companies that require lower cash investments in the current lower-leverage environment. Since the M&A market slowdown, add-on acquisitions have outpaced new platform deals by a wider margin.

How Deals Are Getting Done at the Margins

With higher rates and lingering uncertainty about economic growth, buyers favor high-quality assets. Companies in non-cyclical industries with a track record of strong profitability and recurring revenue from existing customers are attracting more attention and higher valuations.

There is also an apparent disconnect between buyers and sellers on price expectations, with buyers focusing on the higher cost of financing, the recent trend toward lower multiples, and continued economic uncertainty. Meanwhile, some sellers are looking back to the not-so-distant robust M&A market of 2021 and holding out for 2021-style prices. 

As is usually the case when gaps emerge between buyer interest and seller expectations, dealmakers are reaching into their toolbox for various tried & true toggles to bridge the gap. They include:

• Earnouts. Contingent consideration, or earnouts—where a buyer agrees to pay additional consideration upon achieving certain performance milestones (usually EBITDA-related), are more prevalent and tend to represent a greater percentage of the purchase price in recent months. 
• Seller financing. More private deals than usual have featured seller financing, where a company owner finances part of an acquisition of their business with an unsecured, subordinated note, typically with a below-market fixed rate.
• Rollover equity. With uncertain markets, deals often feature more rollover equity, where part of the seller’s consideration comes in the form of equity in the ongoing enterprise. This has various benefits for buyers—alignment of interests between buyers and management, smaller check size for buyers (and less debt at higher rates). Rollover equity represented as much as 40% of the acquired company’s total value for many recent private deals.   

Blocked Exits

Exit opportunities remain hard for dealmakers to come by. Though IPOs are slowly beginning to perk up, it is taking some time. Meanwhile, apart from the occasional one-off transaction, that more recent exit route, the SPAC market, is essentially shut down. 

Sales from one financial sponsor to another frequently have provided an exit for owners of private companies in recent years, but that scenario can only play out so many times before a company reaches a size and maturity level where a sale to yet another sponsor is unlikely. Some privately held companies have reached that stage. 

With many exits delayed for now, private investors are leaning into dividend recapitalizations and continuation funds. Dividend recaps provide some return of capital to investors in cases where an exit may not be on the near-term horizon. Similarly, continuation funds—where fund stakes in one or more portfolio companies are purchased by a new fund managed by the same GP—are used by private equity fund managers to achieve some measure of liquidity for existing investors.     

Tax & Accounting Concerns

Tax and accounting treatment issues are always a concern for dealmakers, and just as market participants are eagerly awaiting clarity on short-term interest rates. They’re also watching domestic and international developments that may affect M&A for both public and private companies. 

In the U.S., regulators and accounting standard setters are pushing for ever greater disaggregation of financial statement information for public companies, including better disclosure of effective tax rates and more detailed reporting at the business segment level.

For large MNEs, the OECD’s ambitious worldwide effort to harmonize global tax regimes and curtail tax base erosion by setting a global minimum tax rate is also accelerating. In the first quarter, the OECD issued final rules on several key aspects of this initiative, and now corporate finance professionals are beginning to incorporate the changes into their strategic planning as they watch various jurisdictions enact conforming statutes and regulations. 

Conclusion

M&A activity already appears to be on a modest upward trajectory from last year’s levels. Still, the market continues to show wariness about the possibility of continued high interest rates and/or tepid economic growth. If either (or both) of those conditions improve—and lingering regulatory and tax questions get cleared up—market participants should brace themselves for a much steeper ascent.