Savor the Excitement of the Ever-Changing M&A Tide

Since the Covid-19 pandemic took hold, the M&A market has gone through significant change. Initially slowed by uncertainty, pent up demand from 2020 delivered a record year in 2021, with technology, digital and data-driven assets fueling much of the boom.

In our last issue, we spoke about ‘diversification’ as the buzzword of the 2022 M&A market. We have seen adaptation in transaction types - inbound, outbound, restructuring, corporate venture capital raising and the divestment of non-core overseas assets, controlling or minority stakes, which is particularly true in regions with increasing geopolitical tensions. Likewise, the region’s key outbound transaction destinations have diversified and continue to diversify, from the US and Europe to various regions, including the Middle East, Latin America, and also intra-regional within Asia Pacific. We are also seeing more and more innovative transaction structures come to fore and what were previously the most active M&A sectors are being replaced by the New Economy & ESG sectors.

The diversified market is preparing itself for a more disrupted, more volatile environment, against a backdrop of a slowdown in some of the key economic engines in the region, the ongoing US/China decoupling, Russia’s invasion of Ukraine which brought capital markets to a near standstill early in the year, the crypto market crash, the likelihood of recession…

While it sounds very ‘doom and gloom’, we do not have to hit rock bottom before we begin to see positive change. Movement is already underway. And although it seems too early to predict the shape of the “bounce back”, the M&A market has repeatedly recovered with significantly increased deal activities and even stronger dynamic after the market has settled and digested the uncertain factors.

Project Execution – Widening Valuation Gap Between Buy Side and Sell Side

Although Natixis CIB and our boutiques in the region are still closing deals at a healthy speed, with a strong pipeline, market uncertainty has begun to impact some executions. In this scenario, M&A professionals face the challenge of providing creative solutions to mitigate the obstacles.

In 2021, we saw valuation multiples generally pushed up, due to the historical high level of accumulated dry powder, the rise of SPACs, and the low cost-of-funding environment, among other factors. Yet the world has fundamentally changed in past 6-12 months and the valuation expectation gap between the buyside and sell side has gradually become a significant phenomenon.

Buyers generally have a more long-term approach, pricing in market volatility and uncertainty. While on the sell side, shareholders and management are taking a more direct operational perspective. To bridge the gap in expectations, innovative structures, such as earn outs, minority transactions with path to control, more structured deal with contingent components, partnership establishment via venture capital raisings, have increasingly merged in the market. As too have more credible and quantified synergies to justify the higher multiples for strategic deals.

Corporate/Investor Behavior – Becoming More “Core” and Defensive

The world is changing rapidly and, accordingly, corporates and investors are changing their behavior to be able to react to not only the expected, but unexpected market events.

On one hand, we see businesses returning to their core activities or pursuing simpler strategies. Private equities are repositioning their portfolios to be more ‘defensive’ and less cyclical. Corporates are carving out or spinning-off non-core businesses in non-core geographies to be more resilient.  Multinational corporations with global aspirations are also choosing to consider working with a local partner for future developments, taking a more defensive approach by ‘de-risking’ their business in foreign markets.

Likewise, investors are being more cautious about traditionally popular, high growth potential - albeit cash negative – businesses, especially those with no concrete business outlooks in current environment, as they require continued significant capital raisings to fuel their growth. With increasing uncertainty and volatility, capital fundings are more and more expensive. Casualties will include some of the high-tech assets which have negative cashflow, with valuations done based on revenue multiples, as well as some of the consumer discretionary sectors. On the flip side, targets with healthy cash flows, resilient business models, pricing power to pass inflation and commodity price inputs, and those less impacted by supply chain disruption and the energy transition trend – to name a few – are falling (back) into favor with investors. Where there is uncertainly, there is always opportunity.

On the other hand, to enter the next stage of development, we also see corporates and investors with healthy capital structures, proactively getting ready to redeploy strategically in order the capture the next opportunities for inorganic growth and reshape their businesses – either to acquire the good quality assets at the right price or to exit at the next market window.

Cross-Sector Transactions – Blurred Sector Boundaries Under Key Market Themes

As discussed above, we have seen defensive, non-cyclical and non-discretionary sectors grow in favor, and in addition to core sector consolidation and expansion, cross-sector acquisition under the key market themes is becoming more and more active. Certain technology and ESG positive sectors such as digital transformation, supply chain upgrades, energy efficiency, too are becoming relevant to an increasing number of corporates.

Perhaps more interesting though, is that sector boundaries are blurring, and more and more corporates are preparing for the next generation industry landscape and value chains – cross-sector being another promising industry trend where M&A is used as an essential strategic tool.

Tech for example, is no longer thought of purely as its own vertical, but also as a horizontal. We are seeing deals with disruptive factors, such as fintech, cleantech, digitalization in the insurance and asset management sector, and the changing era of the Metaverse and technologies such as Block Chain are having potential impact on multiple sectors.

ESG is penetrating all sectors too; companies are changing the way they approach potential acquisitions from the due diligence, financing, and risk perspective. M&A can also be seen as a driving force for energy transition – whether it be by bolt on, capital raise, strategic acquisition – as carbon intensive industries look to pursue more renewable sources of energy.

In August 2022, RATCH Group Public Co. Ltd., (“RATCH”) announced the USD605m acquisition of a Nexif and Denham’s asset portfolio, consisting of renewable power plants, gas-fired power plants and battery energy storage systems. Natixis CIB and Azure Capital acted as exclusive financial advisors to RATCH in this landmark transaction.

Market Sentiment – Despite of Uncertainties, Valuation Reset to Drive a Stronger Market Ahead

As mentioned, valuation multiples were pushed to very high levels in 2021, providing an opportunistic exit window for some investments. However, we see material valuation corrections in public markets, and it is inevitable that valuations private markets for M&A transactions will come down in correlation, with some delayed effects, typically 6-12 months as we saw happen in previous cycles.

Widening valuation gaps are making the execution process more challenging, and making dealmakers pause to think how long it might last, and where we are in the cycle. That said, we expect it to be a temporary phenomenon; the market will eventually digest and settle with the new outlook, and private sector valuation correction is already happening. Although we have probably not arrived at the bottom of the market yet – and we cannot say for certain how long the adjustment will last – what we do know is that valuation reset will happen and it will be one of the key drivers for future M&As.

When expectations are aligned, we will see M&A transaction volumes recover and potentially pick up significantly. Before the reset happens, the M&A market will remain busy - Executing transactions with more innovative structures and readying for the big wave of repeating deals coming back. Sellsides keep close dialogues with global bidders for the ideal exit window, while buysides are also monitoring the market carefully, ready to pick quality targets at the right price to put their capital to work. Proactive strategic dialogues to reshape businesses are also actively on-going.

A New Era Ahead – Success Built on a Resilient Growth Mindset with Business Consciousness

Indeed, the world is changing fast, and M&A has always learnt to expect the unexpected – as evidenced by the huge success in 2021 post pandemic and in 2010 post GFC.

Booming markets are not always the only factor driving the M&A surge. M&A, as an essential tool for corporates and investors to navigate through various economic cycles, is always one of the quickest to settle and adapt during unprecedented uncertainties. It is especially true for M&A that opportunities undoubtedly arise from challenges and uncertainties. The beauty of M&A is that it can transform in order to meet the strategic needs of the market and stakeholders.

No matter where we are in the cycle and the uncertain environment we are operating in - success is always built from a resilient growth mindset with business consciousness.  

Ride the waves. Keep your head up. Don’t be afraid of the horizon, but focus on what’s next. Enjoy the adventure!