Despite considerable chatter about economic uncertainty, dealmaking activity remains strong as we close out the first three quarters of 2019. The total value of deals completed across North America is on pace to top $2 trillion for the fifth consecutive year, says Tom Zucker, founder and president of EdgePoint.
“We expect the number of deals to slightly decline because there are larger deals getting done in 2019, but that decline is at a very marginal level,” Zucker says. “Buying demand is at an all-time high during my professional M&A career. There is north of $800 billion of private equity money. You have the growth of unfunded sponsors and the sophistication of that marketplace and the introduction of family offices that are becoming alternatives to traditional private equity.”
There is also a substantial amount of cash on corporate balance sheets, giving corporate buyers plenty of fuel to make deals happen, despite lingering concern about a recession.
Smart Business Dealmakers spoke with Zucker about the effect interest rates typically have on M&A activity and the continued rise of corporate divestitures in the dealmaking space.
Confidence remains steady
This month’s interest rate cut by the Federal Reserve is unlikely to have a significant impact on dealmaking, Zucker says.
“From a very simple perspective, lower interest rates mean that people have the opportunity to purchase more of the business and there's less interest cost attached to the purchase,” Zucker says. “So financially speaking, it should provide more capital to make purchases. Plus or minus 200 basis points usually doesn't drive M&A demand. One of the primary drivers of the M&A marketplace has been, and always will be, confidence. You have to be confident if you're going to buy a business and have a strategic thesis to it. A decline of interest rates, in theory, should bolster that confidence to make acquisitions.”
The potential exists, however, for the ongoing political uncertainty to, at some point, diminish some of that confidence and become a drag on both the economy and on dealmaking activity.
“The debates and conversations being thrown out where we're going to match ordinary income rates to capital gains rates and wealth taxes, the impact of those concepts to M&A and to the overall business environment are significant,” Zucker says. “The closer those conversations come to reality, the more heightened those conversations become, the more people are going to sit back, pause and wait before they make big bets.”
Know what you’re getting
The number of corporate divestitures has increased significantly in recent years as companies look to shed assets that don’t fit into their future plans.
“Everyone looks at something that's being thrown away by others with rose-colored glasses,” Zucker says. “It's that optimism that really drives the demand for corporate divestitures.”
This trend is largely driven by the prevalence of larger deals that often find companies acquiring assets that became non-strategic.
“There are many private equity funds that are targeting that thesis, unwanted assets from large corporations for attractive purchase prices,” Zucker says. “It can be an opportunity to do more with assets that perhaps were not properly focused on.”
One piece of advice if you’re pursuing a corporate spin-off or divestiture: Know what you’re getting — or not getting — in the deal.
“When bigger corporations do divestitures, they want to retain all the top talent and give you just the assets of the business,” Zucker says. “If you take away top talent and leadership from a company, you're just left with assets and that's a very big challenge. There's a corporate overhead infrastructure that is applied to a business that once you remove that, what are the true stand-alone costs? You have to spend a lot of time making sure you truly understand the operational costs of the business on a go-forward basis, post spinoff.”
Related: Tom Zucker takes a multifaceted approach to the act of buying or selling business.
