April 2, 2020
By Andy Greenberg
CEO GF Data® and Greenberg Variations Capital
Attempts to gain perspective on the deal market in the midst of coronavirus have reminded me of this ageless observation from the screenwriter William Goldman:
“Nobody knows anything… Not one person in the entire motion picture field knows for a certainty what’s going to work. Every time out it’s a guess and, if you’re lucky, an educated one.”
Based on our data gathering at GF Data, client interactions at my M&A firm and discussions with other deal professionals, I thought I would attempt to catalog what we know, and what we don’t.
Deal Activity Right Now
Phil Seefried, president of Capstone Headwaters, has developed a useful framework for the current pipeline in the deal market. His view is based in part on that firm’s national footprint in the $25 million to $250 million deal size space. According to Phil:
- Deals signed but not launched – generally waiting out the current uncertainty. A handful of extraordinarily hot or timely categories are exceptions.
- Deals in the market – mixed bag; some are taking a wait-and-see approach and others are moving forward but process timing is being extended. Even in this video age, most buyers want in-person management meetings, so easing of current travel restrictions is an immediate chokepoint.
- Deals at or past letter of intent – many on hold while closely monitoring company specific developments. Those moving forward are transactions: (a) involving strategic buyers; (b) addressing a mission-critical need or offering significant synergies; and/or (c) capable of being completed with modest or no debt financing.
The Instrument Panel is Broken
The S&P 500 stood at 3,386 on February 19th. At the April 2nd close, it was at 2,527 — a drop of 25%. We are asked every day to assess the extent to which there has been an adjustment in private company valuations. As noted above, there are deals getting done, and those deals provide individual benchmarks which can be placed alongside of comparable deals from prior periods.
I am reluctant, however, to abstract valuation trends from those data points, because the instrument panel is broken. All of us in the deals trade understand that the valuation of a business enterprise is a function of its current cash flow generation, its growth prospects and an appropriate risk-adjusted rate of return. If you can’t calibrate risk, you can’t come up with a meaningful view of value.
This functions as a through line common to the deals still proceeding to closing. They satisfy a strategic need important enough that buyers can be confident the financial rationale will resolve itself. They make sense on the basis of cash-on-cash return. They are priced at levels that make sense even under dire scenarios.
The Intermediate Term
How long will social distancing last? How successful will hard-hit regions be at suppressing the curve? When will less-affected areas begin to normalize? What will be the impact of the CARE stimulus package?
Everyone you know has an opinion. Nobody knows anything.
The Longer Term We are all problem-solvers, analysts. I’ve heard more than a few friends in recent weeks remark that – without dismissing the human tragedy and fear – it is a fascinating time. Part of the fascination is thinking about what comes next. Here is a list of possibilities for 2021 and beyond.
- Social distance experience will elevate some businesses – and raise questions about others. As is widely noted, telemedicine is being transformed. A more interesting and complicated question – to what extent will there be an accompanying retrenchment or fine-tuning in the more retail-oriented bricks-and-mortar health care delivery business models which have gained such favor in recent years.
- Supply chains in every industry will be re-evaluated based on considerations previously given tertiary, or no, consideration. Ashley Hess, the head of Baker Hostetler’s M&A practice in Cincinnati, observes that clients are already undertaking this re-assessment.
- If 2009 is a guide, it will take some time for the instrument panel to re-set. After the liquidity meltdown in fall 2008, GF Data saw a drop in deal volume in the first half of 2009, but not in valuations or in debt multiples. The transactions getting completed had plenty of momentum and represented a “flight to quality.” Lesser deals weren’t getting done at reduced multiples – they were going on hold and dropping out of the numbers. It was not until the second half of the year that deal pricing and debt loads took full account of the changes in market condition.
- There will be a resurgence in distressed/workout activity – anticipated for some time, given the long livedness of the seller’s market, but accelerated and characterizing much deal activity heading into 2021.
- Adjustments to financial performance for coronavirus will become part of the discussion in every deal. These adjustments may be a sword or a shield — or a squeegee, a makeup brush, a shovel or a magician’s wand. The path to normalization will be different in each case.
Here is hoping that as the year progresses, we know more and stay safe – and not in that order.
About the Author
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