Capitalizing on Falling M&A Valuations Amid High Cash Reserves

Capitalizing on Falling M&A Valuations Amid High Cash Reserves
By: Gridline Team | Published: 08/07/2023
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As we edge towards 2024, the global M&A landscape is revealing a promising scenario. Purchase price multiples, a critical factor that impacts deal values, have been steadily declining, presenting a fertile ground for value-based investment strategies.

According to the Q2 2023 Global M&A Report, purchase price multiples are down by a significant 20% from their peak. This downward trend offers a compelling prospect for investors looking to capitalize on the opportunity to acquire assets at a discounted rate.

Historically, downturns have been strong M&A opportunities, with private equity firms that announced acquisitions during crises delivering over 7% higher returns than average in the following 12 months. This is central to the “buy and build” strategy, as cheap acquisitions can quickly expand operations and generate value.

Record Levels of Dry Powder

Meanwhile, the coffers of private equity sponsors and corporations are brimming with unused capital, better known as “dry powder.” As per Allvue Systems, these reserves reached an all-time high of $3.7 trillion in 2023.

This colossal figure represents a double-edged sword. On the one hand, it underscores the immense financial firepower that companies possess. On the other, it emphasizes the pressure on firms to deploy this capital wisely to generate meaningful returns.

The existence of such substantial amounts of cash, paired with the declining deal values, makes for an intriguing scenario as we look toward 2024.

The IPO Drought and Its Impact on M&A

Traditionally, an Initial Public Offering (IPO) has been a favored exit strategy for many companies. However, the path to public markets has been increasingly fraught compared to pre-pandemic levels. A report by Lawyers Weekly suggests that IPOs have been difficult, leading to a significant decline in deal volume.

Plus, the tech sector, which has been a hotbed of IPO activity in the past, is experiencing a drought lasting over 18 months. This trend is not confined to the tech sector alone. Global IPO trends in 2022 showed a substantial slowdown, and in the first half of 2023, global IPO volumes continued to fall from already-anemic levels, with proceeds down by a whopping 36% year-over-year.

This slump in IPO activity may contribute to a resurgence in M&A deal activity. As public markets become less inviting, corporations and private equity firms with large cash reserves are increasingly likely to seek strategic acquisitions to drive growth and return capital to investors.

Looking Ahead: M&A in 2024

Given these trends, we can expect M&A activity to see a resurgence in 2024. Investors, particularly those in private equity, are well-positioned to capitalize on falling valuations and abundant cash reserves to make strategic acquisitions.

The current environment presents a rare opportunity for investors to acquire assets at lower prices, hold them through the period of market uncertainty, and potentially reap substantial returns when the market stabilizes.

The road ahead, however, will not be without challenges. While dry powder levels are high, there will be an increased emphasis on deploying this capital wisely. Investment strategies will need to be tailored to unique market conditions, considering factors such as sector dynamics, the competitive landscape, rate increases, the cost of capital, and the broader economic environment.

Gridline, an alternative investment platform, offers investors access to top-tier fund managers across venture capital, private equity, private credit, and real assets.

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