How the Right Strategies & Timing for Mergers & Acquisitions in Downturns Can Be the Key to Greater Returns & Success

As the economy cycles, uncertainty can alter investment strategies and deals involving mergers and acquisitions (M&A). For example, during economic downturns:

• The sheer volume of M&A activity usually declines: When comparing the first quarter (Q1) of 2020 to Q1 in 2019, mergers and acquisitions across the globe dropped sharply, falling about 25%, according to the latest reports. Looking at M&A in the U.S. alone, the fall is even more dramatic, with M&A activity and values declining by about 50%, marking a 5-year low. The drop-offs in national and international M&A are largely driven by companies shifting gears to focus on staying afloat, rather than growing or trying to expand market presence.
• The reasons for pursuing mergers and acquisitions can change: In a thriving economy, companies and private equity firms commonly pursue M&A to accelerate growth, eliminate competition, and/or expand market presence. In contrast, mergers and acquisitions in times of economic uncertainty can be driven by completely different objectives and needs—like the need to reduce overall costs, leverage economies of scale, get more “essential” customers, and/or optimize performance to help companies stay afloat or remain competitive.
• The types of deals that are made tend to change as well: For example, companies looking to improve operations and cut costs during a recession may be inclined to pursue horizontal mergers, rather than pursuing acquisitions for new technology or growth acceleration.
• Valuations can change significantly: Some businesses that don’t fare well during an economic downturn may be concerned, even fearful maybe, about their lack of cashflow to continue a particular growth strategy or other initiative. On the other hand, if a target thrives during a downturn, the buyer may be upset that they didn’t purchase sooner because they may find themselves paying a higher purchase price. Why? Because if the target can survive and thrive during such times, the fact that the business has shown economic resilience during economic uncertainty (for example, during a pandemic like COVID-19), that business will likely mean less risk for a buyer, and thus bring a higher valuation.

M&A will always evolve as economic conditions, company objectives, and investor outlooks change.

Despite these changes, however, it is possible for companies and private equity firms to leverage the unique aspects of downturns to see greater success and better returns from these transactions. Some research has even shown that companies can see 7 to 10% greater shareholder returns if they act judiciously and time M&A transactions correctly when the economy slows down.

Best Practices for Mergers & Acquisitions in the Face of Economic Uncertainty

When market downturns spark greater uncertainty, returning to “best practices” for M&A can be pivotal. Careful analysis will help companies recognize lessons from the past, understand the unique facets of current market conditions, and determine the best ways to approach and conduct mergers and acquisitions.

To that end, here are a handful of best practices for M&A in times of economic uncertainty. Through these practices, companies can improve their approach to mergers and acquisitions while setting new ventures up for success.

1. Recognize Opportunities & Nurture Confidence

A slowing economy can make shareholders, board members, and others more anxious and risk-averse. Not only will financial metrics need to be considered, but the optics of growth decisions, including how the public will react to it, are also important to weigh.

Nevertheless, downturns can give rise to new business models and investment opportunities. The difficulties can arise when it is time to agree on what those opportunities are and whether or when to take decisive action when an opportunity arises. Business leaders can empower themselves to overcome these potential challenges by:

• Taking a proactive approach to evaluating portfolios and strategies: Instead of reacting to losses and misalignments, look at growth strategies, portfolio management, and
  key metrics routinely, especially as the economy slows down. If these can be adjusted as conditions evolve, companies can remain agile and confident that their strategies are aligned with their objectives.
• Reprioritizing options: Economic uncertainty can change the viability and appeal of different opportunities in a development deal funnel. Reevaluating these options is essential whenever market conditions change.
• Maintaining an open dialogue: Communication between business leaders, dealmakers, and others is critical to staying on top of opportunities. This good communication is also essential to acting confidently and quickly when the right opportunity does arise.

2. Maintain Access to Funding/Capital

M&A is somewhat dependent upon lending and easy access to capital. It is no secret that capital can dry up and borrowing can be more challenging during market downturns. This fact can be compounded by falling revenues, financial inefficiencies, and other factors.

However, capital is still available during these periods. In fact, when compared to decades in the past, there are more diverse options for capital in today’s world, like venture capital. Many businesses also tend to hold more cash these days than in previous decades and can sometimes close deals without a lender.

To safeguard the availability of capital during a market crisis, companies can take key steps, like (but not limited to):

• Optimizing working capital: Improving operational efficiency can strengthen a companies’ capital positions during downturns. This can involve anything from reducing inventories to outsourcing.
• Restructuring debt: Is it possible to refinance any existing corporate debt? Do the terms of any existing loans change in a recession? Is it possible to seek alternative lending to open up more access to capital? These are just some of the important questions business leaders should ask (and answer) when taking a critical look at the structure of their debt during downturns.

3. Focus on Consistency & Reputation

Mergers and acquisitions, by their very nature, change companies in one or more ways—from asset holdings and supply chains to talent, operations, market share, and more. In the face of these inevitable changes, maintaining certain constants can be the key to successful integrations. Some of these can include:

• Clear plans: Whether considering shared services or upcoming integrations, proactive planning and clear strategies can help companies anticipate disruptive factors, leverage opportunities for cost reductions, and efficiently fold in new assets.
• Routine evaluations of incentives and pricing: From employee incentive programs to company revenue streams, the numbers should be regularly reviewed to determine if they make sense, given current market conditions.
• Reputation: Be mindful of your ability to follow through once a deal has started and your ability to act in good faith. If a buyer takes a target “through the ringer” so to speak (a full deal process), only to back out last minute, that buyer will likely have a hard time recovering from the reputation hit for the next target. If any bad faith occurred during the sale process, the buyer would have a hard time convincing the next target of their intentions, especially if that buyer is still in litigation from the prior failed deal process.

Consistent planning and evaluation can keep business leaders aware of—and responsive to—the dynamics that can impact the success of mergers and acquisitions.

4. Appreciate the Value of Culture & Talent

M&A in downturns can intensify employees’ anxieties, especially if they are left in the dark about what is happening. While employees may fear downsizing and job loss, executives may be feeling the heat regarding layoffs, including who and how many people to let go.

Keeping employees in the loop can help them feel more confident and valued. It can also boost company culture and promote retention during transitional periods.

Some other ways businesses can acknowledge and protect the value of their talent and culture include:

• Evaluating existing talent before adding to it: Look at the scope, structure, and evolution of the workforce. These aspects of a business can be very telling about its needs, revealing how plans and models may need to be altered ahead of a merger or acquisition.
• Investing in employees: Training programs and paths to advancement can help employees develop new skills as needs evolve. While robust training and other investments in employees can enhance efficiency, collaboration, and productivity, it can also improve company culture and more effectively leverage the staff’s knowledge of an organization.

Companies that acknowledge employees’ perspectives and address their concerns may be able to retain the key talent they need to make M&A successful.

The Bottom Line

When it comes to mergers and acquisitions in times of economic uncertainty, the bottom line is:  planning and the right approach can make all the difference.

Investors, business leaders, employees, and consumers can become uneasy whenever the economy slows down. And that can impact everything from consumer confidence, profits, and customer relationships to working capital, funding options, and investment opportunities.

So, when uncertainty inevitably creeps into the economic picture, companies pursuing M&A will need to be ready to shift gears. When they can do that—and when they alter their strategies and timing in the right ways—they can seize the right opportunities and better position their M&A activity for success, no matter what type of market conditions may exist.