THE M&A MARKET IS POISED FOR AN UPTICK

During the course of the pandemic, middle market M&A had an unprecedented level of deal activity due to a variety of factors, chief among them low interest rates, the large influx of capital into private equity, and a common belief among sellers that tax rates would soon increase with the Democratic party controlling the executive and legislative branches after the 2020 elections.

That robust activity encountered numerous headwinds last year, however, with the Federal Reserve increasing interest rates to combat inflation that had been persistent with continuing supply chain issues and elevated energy prices. For 2023, U.S. private equity deal volumes have been initially reported to be down 27% from their 2021 peak, and down 19% from 2022. U.S. corporate M&A transactions for deals greater than $100 million are expected to be down 38% in 2023 compared to the 2021 peak and down 9% from 2022.

Toward the end of last year, with interest rates stabilizing, supply chain issues finally seeming to resolve, and with pent up deal demand after a sluggish end of 2022 and into 2023, the M&A market showed signs of increased activity across the board. Private equity deal volume in 2023 increased in each successive quarter after a very sluggish start. Bloomberg recently reported that both major and boutique investment banking firms are staffing up for 2024 in anticipation of increased M&A activity. A number of M&A deal sites have reported an uptick in activity on their platforms across a broad range of industries. And Ernst & Young recently projected in its Deal Barometer that U.S. private equity deal volume would be up 13% in 2024, with corporate M&A activity increasing by 12%.

All these favorable market conditions should provide a significant boost for middle market deal activity, which weathered the adverse conditions of the past year fairly well, given the lesser impact of higher interest rates on deals in that range. The general expectation on interest rates for 2024 is that the Federal Reserve will cut rates by 75 to 100 basis points, which will afford buyers in that space even greater flexibility to do deals.

In addition to more favorable market conditions, fast-growing industry segments like Artificial Intelligence and its ancillary businesses provide additional fuel for deal flow to increase this year and beyond. Technology in general helped sustain deal activity during 2023, accounting for nearly one-third of private equity activity by value for the past year. Much like the stock markets for 2023, then, technology was the driving force. Not to be discounted from a sector analysis is health care, which accounted for 10% of private equity activity by value, a significant increase which is expected to grow in light of an aging population and strong performance by companies in the field.

For middle market M&A, manufacturing and distribution will as always continue to be strong segments in 2024, with a large number of attractive prospects that combine long-running track records of performance, strong reputations in their industries and opportunities to achieve significant efficiencies through scaling and technological optimization. Look for manufacturing and distribution deals to be very robust in 2024 as buyers come off the sidelines to acquire strategic fits.

And of course, demographics continue to be favorable for the middle market, with a significant number of business owners in the baby boom generation poised to sell their companies and retire. Again, pent up demand on both the buy side, with some buyers choosing to remain on the sidelines for the past 18 months, and the sell side, as owners waited for better deal conditions to re-emerge, should serve to further increase deal flow for this year.

In sum, although 2023 saw a slight downturn in middle market M&A activity given the historical heights that preceded it, all signs point to a return to form in 2024, with both buyers and sellers eager to engage in M&A transactions.