A year defined by a high number of huge mergers and acquisitions has given way to one in which multiple factors are creating a more uncertain landscape for business leaders. Forecasts of the next economic downturn vary, but most agree one is coming – as soon as the end of 2019 and likely no later than the end of 2020. US companies are facing pressures on multiple fronts, from rising wages and labor shortages to tariffs to higher interest rates.
Over the past quarter-century, recessions have been accompanied by a decline in M&A – both volume and value of deals. But the current M&A cycle isn’t like previous ones. Corporate and private investors today have access to record amounts of capital, and that capital availability creates a floor for M&A that will prevent it from following a decline in the overall economy.
This decoupling of deals from the economy will be fueled by transactions aimed at increasing scale for companies. M&A will also continue to be driven by the growing convergence of many industries with new technological capabilities, as businesses choose to buy rather than build technology that can help shape future growth.
More money for investments
The high levels of corporate liquidity are due to many factors, including increased savings, record profits, larger debt capacity and lower tax rates following the late 2017 federal tax overhaul. Repatriated cash from overseas also is available for some companies.
We already saw more cash put into play in 2018, with increased spending on capital expenditures, research and development, and deals. That M&A activity included a wave of megadeals – transactions of at least $5 billion in value – across several industries. The total value of announced US deals in 2018 was expected to exceed the highs before the last recession and approach the record for deal value set in 2015, according to a PwC analysis of Thomson Reuters data.
In addition to corporate capital, private equity firms globally have more than $1 trillion in capital available for investment, according to data provider Preqin, and those firms are partnering with sovereign wealth funds and pension funds on a larger scale. When you factor in borrowing rates that are still historically low, there’s simply more than enough ammunition for investors to keep moving on acquisitions, particularly if company valuations start to moderate in a slowing economy.
Pursuing scale and convergence
Most of the largest 2018 deals saw buyers targeting companies within their sector, aiming to boost their presence in the market or seeking cost synergies. Megadeals have been struck across the industry spectrum – in consumer products, healthcare, media, pharmaceuticals, telecommunications and other sectors.
That pursuit of scale isn’t new but is now extending to more mid-sized and smaller companies, as less dominant players in some industries look to incrementally create a stronger foothold amid the giants. In certain sectors, you don’t have to be a multibillion-dollar company to increase market share. One example is cybersecurity, where firms are consolidating through mid-sized deals to build scale.
Mid-sized deals – those of less than $1 billion – are also where most non-tech companies are increasingly investing in technology as they reassess their growth strategies. More than one-third of all US corporate deals in 2018 crossed sector lines, PwC’s data analysis shows, and tech businesses have been the biggest target as companies respond to digital disruption. Growing interest in emerging technologies such as artificial intelligence, the Internet of Things and blockchain could accelerate this, as we’ve already seen increased early-stage investment in these technologies.
Slower regulatory change brings more confidence
A Democrat-controlled US House of Representatives over the next two years likely means a different pace of regulatory change than the previous two. Democrats and Republicans typically hold different views on legislation in such areas as financial services and health care, which makes major developments there unlikely. As some legislative changes potentially stall, corporate and private investors should feel more confident executing their growth plans, with fewer fears of big shifts than earlier in the Trump administration.
One area to watch, however, is privacy. Last year saw the General Data Protection Regulation implemented in Europe and approval of the California Consumer Privacy Act. US legislators have proposed bipartisan bills on data privacy in the past and continue to discuss how to improve protections for consumers.
If not at the federal level, state privacy measures similar to California’s could take shape after turnover in legislatures and governors’ offices in recent elections. Whatever form they take, more data privacy regulations could influence the speed and scale of tech giants’ growth aspirations, potentially affecting M&A decisions.
Dealing with disruptive forces in 2019
The new year brings other potential hurdles for businesses. The tariffs on various products and simmering trade war with China are disrupting some supply chains and raising the prices of intermediate goods. Companies are watching the United Kingdom and European Union to see how they negotiate Brexit. The US and other countries are pledging closer scrutiny of certain cross-border investments.
All of these will require caution and possible adjustments to business strategies; in some cases, for instance, an alliance or joint venture could deliver more value than an acquisition. But the availability of capital and appetite for both building scale and leveraging new tech capabilities remain substantial, and that should drive a healthy deals cadence in 2019.