Hear from the Experts about Today’s Top Influences on the M&A Market

This panel is sponsored and led by GHJ Advisory and Transaction Advisory Services Practice Leader Anant Patel and GHJ Advisory Principal David Sutton.

It is no secret the mergers and acquisitions market (M&A) has increased at breakneck speed in the past few years. According to The Wall Street Journal, private equity netted nearly $945 billion dollars in U.S. buyouts toward the end of 2021 – more than double the previous 2007 peak.

Experts from GHJ, a national accounting and advisory firm headquartered in Los Angeles, recently sat down to discuss the top issues impacting this trend and what to expect moving forward. See what Partner Anant Patel and Principal David Sutton from GHJ’s Transaction Advisory Services Practice had to say about inflation, supply chain challenges and other deal disruptors in the market.

Q: We should start by addressing the elephant in the room: inflation. It has had a major impact on sales, margins, debt and cash flow. What have you seen in the past 12 to 18 months?

DS: I hesitate to use the term “perfect storm,” but raw material costs have increased sharply, supply-chain obstacles continue to present challenges and demand coming from consumers remains mostly strong. It is no surprise that inflation is trending where it is given these pressures. That said, despite historically still being fairly low, inflation is higher than most people have been used to because of the extended economic cycle.

Q: Can you expand on how you have seen supply chain obstacles affect the clients you work with?

DS: The real impact of the broader logistical challenges depends on the company’s position in the supply chain. Companies closer to the consumer have less ability to increase prices and take on the cumulative impact of increases further upstream, whereas those at the beginning of the supply chain – such as agriculture – can pass on price increases to offset inflation from, say, a wage increase. Those fluctuations ultimately trickle down to the consumer.

Q: So, companies that are further away from the end of a particular supply chain have more ability to maintain those margins. What effect have you seen on cash flow?

DS: Managing working capital and cash is critical, both now and in the coming months. To do that effectively, companies must act now by scrutinizing their cash conversion up and down the balance sheet and maximizing liquidity. We would encourage companies to prepare scenario-driven forecasts and review their cost structures to ensure they drive efficiencies and cost savings.

Q: That also has a direct impact on M&A. After record-breaking growth, this volatility may cause caution on the part of investors. Is that what you’re seeing?

DS: Absolutely. Buyers are assessing their acquisition strategy. We expect investors to be cautious, extend their due diligence and change their structures, which we suspect will lead to downward pressures on valuation to maintain expected ROI. It has been a seller’s market for so long, but M&A does not stop overnight, especially in the middle market. Entrepreneurs have proven time and time again that they can pivot and navigate uncertainty, just like when the pandemic hit with the various implications and knock-on effects that followed. There might be some plateau in M&A activity in the coming months, but I think the backend of 2022 will hold strong for the middle market.

Q: Many companies have been through the wringer in recent years. Interest rates used to be a primary tool to control inflation, but now inflation is happening in many different pockets that are not controllable at the macro level. How are you advising clients to prepare for the unexpected?

DS: This will vary significantly, but general themes are preparing dynamic forecasts and incorporating scenarios to effectively manage working capital. This will help provide the visibility needed to navigate uncertainties, such as supply chain challenges, and the various economic factors that could transpire over the next 12 to 18 months such as inflation, stagflation and the anticipation of further interest rate increases.

Q: Speaking of planning for the future, we have seen a growing emphasis on corporate social responsibility. Sustainability was once an initiative taken on by a few forward-thinking companies, now it is the norm. Are you seeing this shift in M&A?

DS: Yes, more and more private equity funds and financial-driven buyers are looking at their sustainability and social-economic stances. These types of messages resonate with consumers and can often be a component of valuation. These businesses will also be better protected during any future disruptions through a loyal customer base, engaged workforce and supply of capital.

Q: What other deal disruptors are you seeing in the market?

DS: I think one major influencer is the war in Ukraine, which is not fully felt by the Western economy. This will be most significant in terms of the availability and pricing of raw materials, and as the economy becomes more and more integrated globally. Such pressures loom on the horizon and will almost certainly play a part in shaping M&A.

Another factor is entrepreneurs who are simply tired. Many have been really running hard over the past five years, and then also navigated the disruption caused by the pandemic. Through this disruption and turmoil, priorities are shifting personally and professionally. That has significantly impacted the way enterprises conduct business, which in turn impacts how investors view, analyze and ultimately value companies.