2021 M&A Overview and 2022 M&A Outlook
2021 M&A Deal Activity – In the past year, deal making in the middle market set a historic pace. Private Equity firms closed an estimated 8,624 deals for a combined $1.2 trillion—around a 50% increase from previous annual records for deal value. As a result, many industries experienced increased competition for deals, and multiples returned to levels equal to or higher than in 2019. Low interest rates were a key factor in driving the record-breaking pace. Some look at potential policy changes on the horizon, including interest-rate increases, as a sign that deal activity could slow down, while others look to the cash piles many companies amassed early on during the COVID-19 pandemic as a sign that 2022 will be another strong year for M&A activity.
Valuations – Valuations in 2021 hit heights that have not been seen in well over ten. However, with the increase in buying opportunities and limited resources, its expected that buyers will begin exercising more restraint and valuation discipline in 2022.
Rep & Warranty Insurance – Representation and warranty insurance (“RWI”) continues to play a prominent role in the M&A deal process. According to the most recent American Bar Association M&A Deal Points Study, the use of RWI has jumped from 29% of deals to 65% of deals in the last five years. Diligence areas of focus for RWI carriers in 2021 centered on data security, environmental matters and compliance with COVID-19 regulations, and we expect those focuses to remain. In the early stages of the pandemic, RWI carriers included broad COVID-related exclusions in their policies, but these have generally been tailored to the individual company’s COVID-related risks.
Add-Ons/Exits – Last year continued the upward trend in the use of add-on investments. According to a report from PitchBook, add-ons as proportion of the number of total US buyouts reached an all-time high of 72.8%. We expect to see a continuation of this aggressive approach to add-on acquisitions in 2022, as many buyers devote significant resources to buy-and-build strategies to create value. Firms are using the flood of add-ons to help blend-down the sky-high EV/EBITDA multiples, which had a median in the private equity sector of about 13.7x while the S&P 500 had a median of 16.8x. With a general consensus that multiples will shrink—or at least stay put—in the coming years, firms are becoming more aggressive in their pursuit of inorganic growth and continue to add on well into their holding periods. Additionally, the median holding period for private equity assets experienced an uptick, reaching the 5.0 year mark again after the past two years of sub-five median holding times. US exits in 2021 shattered previous records for both number of exits (1,731 US Companies) and total value ($854.3 billion). These numbers were affected by the addition of exits meant for 2020 but put off until there was less uncertainty in the market, and deals closed in 2021, instead of 2022, for tax-related reasons.
Increased Focus on Inorganic Growth – Firms are becoming more focused on inorganic growth. Rising valuations have motivated firms to add value through buy-and-build strategies, both through add-on acquisitions and aggregation of multiple small companies to generate scale.
Economic Slowdown? – Headwinds are forming in 2022. Projected interest rate increases, antitrust and foreign investment regulations, new COVID-19 variants and potential tax law changes may cause certain businesses to taper spending and expansion plans. Nonetheless, high-yield credit will remain attractive to investors, keeping capital available to private equity firms, even as the Federal Reserve hikes interest rates.