The M&A landscape is beginning to evolve, with shifts in market dynamics shaping deal terms and bargaining dynamics for 2024 and beyond.
Below are some key highlights from SRS Acquiom’s 2024 M&A Deal Terms Study, which analyzed thousands of private-target M&A transactions that closed between 2018 and 2023, along with my thoughts on underlying market conditions driving these trends. We also look ahead to expectations for the M&A market through the end of 2024 and into 2025.
Valuation Trends:
In 2023, there was a continuation of lower valuations and a focus on lower middle-market deals (less than $50 million). The median return on investment for deals closed in 2023 was 2.5x, a decrease from 4x in 2022. This trend may be largely attributable to increased cost of capital in 2023.
Buyers and Deal Structure:
Strategic buyers were more active in 2023, while private equity-backed buyers saw a significant decrease in activity. All-cash deals began to rise in the latter half of 2023 after an earlier increase in the use of buyer equity as part of the consideration. Again, this is likely attributable to the interest rate environment in 2023.
Purchase Price Adjustments:
The "worksheet" approach for accounting methodology in PPAs surpassed "GAAP consistent with the target’s past practices" for the first time, now being used in more than 1/3 of deals. Market acceptance of this approach is likely to benefit both buyers and sellers by reducing friction in calculating purchase price adjustments and decreasing accounting and legal costs relating to the same.
Earnouts:
The inclusion of earnouts in deals increased significantly, with 1/3 of 2023 deals featuring an earnout, a 50% rise year over year. This may signal stronger negotiating power on the buy-side than we have seen in several years.
Representations and Warranties Insurance (RWI):
RWI was identified in approximately 38% of 2023 deals, down from previous years.
Materiality Scrapes:
The usage of materiality scrapes remained prevalent, with a majority of deals including them for determining both breach and damages.
Looking forward to Q4 2024 and 2025, we expect interest rate cuts to reinvigorate the M&A market slightly. Lower financing costs may increase private equity activity by contributing to better returns on investment in leveraged buy outs. Companies with strong balance sheets, may take advantage of cheaper capital to finance acquisitions. More private equity and strategic buyers in the market can drive competition, strengthening sellers’ negotiating power and increasing valuations.
