Exploring the Impact of Interest Rates, Uncertainty, and Industry Shifts on M&A Trends, and Predicting the Future of Investment Banking in the Year Ahead.
The M&A market is coming off very positive years, especially in 2021 where record deals were closed after exiting COVID, and a relatively good 2022 where they settled 9% more deals than before the pandemic. But will this continue to be the case?
The M&A market will face a very difficult year in 2023 where the number of transactions will suffer due to several factors that will be analyzed throughout this article.
The first factor is the rise in interest rates, which severely affects the M&A market due to several elements. Commencing by the fact that the M&A market is made up of 30-40% of operations that occur in the world of private equity (this private equity operations have high leverage, due to the model of LBO), so when interest rates rise, the credit market becomes more restrictive and becomes more expensive to access it, so these transactions with high levels of debt are slowed down.
Source: S&P Global
The second factor is uncertainty and, although it is strongly related to the first factor, the M&A market suffers a lot from this. Many clients decide to postpone deals due to uncertainty, an uncertainty that comes mainly from the continued interest rate hikes by the FED and the ECB. A rise in interest rates causes the cost of debt to increase for companies, so their WAAC increases and, therefore, has a direct impact on the valuation of the company. So now, it is crucial to have a certain type of interest rate stability. M&A clients want to know where valuations are going to settle down, and how much the companies are worth, so neither do we need the interest rates to go back to the previous levels, we just need stability.
This year the type of M&A transactions that will take place will be radically different from the scenario we saw in 2021 and most of 2022. In 2023 the number of technology M&A transactions will drop significantly due to the restrictiveness of the credit market and high-interest rates, but we will see more transactions in Healthcare and industrial companies. Regarding the energy sector and especially in the ESG segment, we see that they will continue to grow this year. Also, the type of transactions will change a lot, in 2021 and much of the year 2022 we saw that one of the main operations of investment banks was the IPOS, but in 2023 the number of IPOS will decrease significantly because it is less attractive for a company to go public, as valuations have fallen and will continue to fall progressively.
The type of operation that we will see the most in 2023 is a corporate simplification. This is a type of operation of great value for companies for two main reasons. The first is because investors find it easier to invest in simplified models, and second, the disparity at which the different parts of a company's business (conglomerates) are quoted, which will cause companies to seek the highest possible valuation of their businesses in difficult markets through SPIN-OFFS and other types of operations.
An optimistic outlook for 2023: 2023 is a very difficult year for investment banking and will remain to be so throughout 2023. However, the second half of the year will not be so bad for M&A with a pickup in deals for several reasons.
Firstly, the Fed's pivot is getting closer and closer, and a slowdown in interest rate hikes and a subsequent lowering of interest rates would activate the M&A market and give investors confidence, which, in fact, would greatly activate the M&A market.
Secondly, We believe that in the second part of 2023, there will be less uncertainty about inflation and the Fed's actions, so many companies that have decided not to carry out M&A operations in the first part of the year will end up accomplishing them in the second half. Regarding this intersesting graph provided by Pwc, it can be contemplated that, despite the economic uncertainty, many companies do not plan to delay their deals.
The conclusion about the M&A market in 2023 is that it will undoubtedly be a difficult year. Particularly in the first half of the year when the number of deals will be reduced, especially in technology. But the pivot of the FED and the growth drivers mentioned throughout this article will drive a recovery of the M&A market in the second half of the year.
Written by: Miguel Montes, TMT Market Analyst & Partner at Sora Capital A.C.
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