Ingrams July 2023

Thought Leader Insights: Mergers & Acquisitions

Q&A ... W ith J.B. M ason The managing partner for O’Keeffe & O’Malley, one of the region’s biggest players in business valuations and related services, assesses a marketplace that is regaining traction after the run-up in interest rates.

Q: So as a quick scene-setter, we’d followed the sharp decline in mergers and acquisitions last year and seen reports of a bit of a rebound. What’s the overall landscape in that space halfway through 2023? A: I think it’s important to note that my firm, O’Keeffe & O’Malley, serves busi nesses at the intersection of Main Street and the Lower Middle Market. These are com panies that will sell for $1 to $50 million and reflects most of the business in the US. The massive transactions that you see on CNBC are fairly uncommon. It’s true these transactions have slowed down signifi cantly due to a variety of factors including interest rates. Industry reports indicate that these deals are starting to pick back up. Q: What about the market for Main Street and Lower Middle Market deals? A: What we’ve seen in the small to midsize businesses is that the velocity has remained consistent. For quite a while, deals in this space were on an upward trend. That growth may have stabilized, but for reference, industry data indicates that deal velocity in that space was about the same as in previous years. Not growing, but not decreasing significantly. The market for deals in the $1 to $50 million valuation range is healthy. I believe this is driven by the tail- winds in the industry, specifically regard- ing the popularity of Acquisition Entre preneurship. Over the next 10-20 years we expect millions of successful small busi nesses to transfer from one generation to the next which is going to be phenomenal for local economies and the next genera tion of business owners. Q: Even with the run-up in interest rates since early 2022, aren’t we now just getting back to a place where rates have been as a historical measure?

A: It’s interesting looking at that return to historical levels—normalcy, almost. Historically, rates have averaged about 5 percent, even factoring in massively high rates of the 1980s, but if you look at the last 15 years, we’ve essentially operated in a free-money environment. That’s going to affect valuations; it’s what drove some of the insane IPOs we saw in recent years. But rates historically have been much more similar to what we’re seeing today. Q: How has that impacted each side of the table during discussions about cutting deals? A: Investors have to be a bit more disciplined and put more scrutiny on their deals, which means seller’s may need to rein in their valuation expectations. In the free-money environment valuations became bloated, but in the current state we won’t be seeing as many overpriced deals get across the finish line. Q: Are the trends sector-specific? That is, are businesses in some industries faring better than others in this climate? A: Businesses that are going to perform the best in any M&A environment are the ones where the seller has taken the time to plan for an exit. In an environment where there is extra scrutiny on a deal or a desire to take less risk, that will be exacerbated. That’s why it’s important to have a strong management bench, systems and processes, modern technology, and organized and con sistent financials. Seller’s that have focused on building a transferrable business will have the most success when going to market. Q: That concept—overpricing— seems odd; you’d think someone astute enough to make a strategic investment or a long-term financial investment would also be navigating toward the best price. A: It’s important to consider the

efficiency of a market. Public stock markets are some of the most inefficient markets in the world and it’s common to see mis priced companies. Look no further than public tech stock prices which have come crashing down in the last eighteen months. The biggest driver of the run-up and recent decline of the stock market was free-money. So, in a highly sophisticated market where multi-billion dollar companies are traded publicly it’s still possible for busi nesses to be overpriced. I highlight this example because we are talking about multi million dollar companies traded on a private market so you can imagine the potential for pricing discrepancies is even higher. cated market, where multi-billion-dollar companies trade publicly, but here, we’re talking about multi-million-dollar compa nies trading privately, with various investor types—businesses buying out competitors, private equity, all have different goals for the transaction, different returns they’re required to hit internally. Q: And there are some nonfinanc- ial factors that are part of the discussion, aren’t there? A: Exactly. We’re talking about owners selling a business that’s often been their life for 20 or 30 years or more. Sometimes, an owner’s expectation of valuation isn’t necessarily rooted in historical multiples or industry-standard multiples, but simply in the fact that they need to retire, and they have a price in mind. Q: Can you expand on that a bit? A: That might be the most sophisti Q: How does that play out during the negotiations? A: There are a few factors to consider, but let’s come back to the interest rates dis cussion. Imagine a buyer who is committed to purchasing a business, but the seller’s

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July 2023

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