One of China’s biggest property developers,
This potential default has triggered fears across global markets that investors will not get their money back. It has also had an effect on global debt markets fearful of what a default could mean for the availability of capital.
The impact of this development could be wide reaching, with a myriad of British firms relying on debt capital to finance mergers, acquisitions and growth in a period where the M&A market is at a high point.
With this in mind,
In fact, he said that a combination of long-term uncertainty, reduced leverage capacity and an increase in performance based deal structures is likely to lead to a general reduction in M&A activity and more power for buyers.
“With several structural global issues looming on the horizon, which have the capacity to shake the foundation of global debt markets; the impact on M&A may be profound,” Tomlinson told City A.M.
“Generally, when one thinks of the impacts global debt markets have on M&A, they think of the big deals highlighted in business publications such Forbes yet the biggest impact is actually on the SME’s.”
Long-term uncertainty is expensive
When lenders and capital providers deem the long-term economic view to be too uncertain, they increase interest rates and reduce their leverage exposure on transactions as a measure to protect against risk.
This means that when borrowing money for an M&A transaction, which Bain estimates to have dropped from 75 per cent in 2019 to approximately 50 per cent in 2021; the net result is that it costs the acquirer more and requires more cash to complete a given acquisitionm, Tomlinson pointed out.
“When it comes to SME M&A transactions, multiples are often constrained to the capital the acquiring party has available and therefore decreased leverage has the propensity to reduce total average EBITDA multiple(s) SME’s receive on transaction.”
Further, assuming that many buyers of SME’s don’t have unlimited sources of capital, when investing more cash into a particular M&A deal it reduces the total amount of deals that the buyer could make with said cash available, he added.
“The resultant debt market uncertainty is both immediate and has longer term implications for SME’s,” Tomlinson noted.
Leverage capacity directly impacts exit multiples
Notwithstanding liquidity crises in debt markets, which can occur as a result from impactful one-time events like the potential collapse of
“The rates at which lenders are lending on M&A deals have historically hovered around 2.5x to 3.5x EBITDA, however this has dropped to an average of 2x to 3x EBITDA,” Tomlinson pointed out.
“To put this into perspective, let’s say that an SME with
Performance-based deal structures
With market uncertainly and the fact that we now adjust for the impact of Covid on every M&A transaction, the impact is greatest on lenders who are weary of lending towards anything other than actual financial performance, Tomlison said.
“Therefore, when debt levels are reduced on a given transaction and sellers want to ensure they receive the exit multiple they require to sell the company.”
“It means that more of the transaction needs to be structured in a way that is performance based. With performance-based elements of a transaction comes additional risk for the seller,” he concluded.
The post M&A cash: Uncertainty and reduced leverage capacity make it harder to finance takeovers appeared first on CityAM.
© City AM, source