In the current COVID-19 climate, we are replacing our analysis of M&A data in the most recent quarter (January-March) with an outlook for M&A activity through the remainder of 2020. The first quarter of 2020 seems a long time ago and has minimal influence on the current M&A environment. Conversely, we now have initial insights into the COVID-19 impact on the U.S. economy, specific industry sectors and the outlook for M&A.
In the 2008 financial crisis, quarterly M&A volumes declined from $870 Billion to $500 Billion globally. Similar short-term declines are likely to be seen across all sectors, with some planned acquisitions hitting pause and others being terminated altogether. Even for motivated acquirers right now, most diligence and transaction closings require air travel, which has suffered significant disruption, delaying or postponing closing.
All Sector M&A Activity Forecast Timeline
- Existing M&A transactions will restart, with potential for revisions or restructure;
- Leverage multiples may shrink, requiring additional equity to fund the transaction.
Remainder of 2020
- Acquirers re-assess strategic priorities: new strengths and weaknesses in business model;
- Consolidation strategies; vertical and horizontal integration;
- Distressed/discounted acquisition opportunities;
- Divestiture of non-core business to raise cash.
- Restructuring balance sheet, recapitalizations;
- Accelerated industry roll-ups;
- Accelerated divestitures of under-performing portfolio companies;
- Surge in business exits for business owners that survived COVID-19, but no longer have appetite to continue;
- Re-launch of Spring 2020 transactions that were sidelined;
- Opportunities for new supply chain structures, potential impact of nationalism/protectionism.
Sector By Sector
On an industry level, below are examples of industries and their risk profile through COVID-19.
Most Resilient through COVID-19
Transportation and Logistics
Materials and Construction
Most at Risk through COVID-19
Along the curve, the most resilient sectors will likely see an infusion of growth capital and acquisitions, while the most at risk will likely see increased M&A activity due to distressed M&A. There remain billions of cash sitting on the sidelines looking to invest in companies, just with a different agenda, depending on where the company and industry falls on the risk profile. On an individual company level, there will be underperforming companies at the “most resilient” end of the spectrum, which may be targets for consolidation, while over performing companies at the “most at risk” end of the spectrum that will be a platform for consolidation, gaining market share and exiting this recession positioned for strong growth.
Aerospace and Defense
In the midst of the COVID-19 pandemic, uncertainty remains for the duration and depth of the crisis, in the particular for the aerospace industry. Within the CARES Act, the largest economic rescue package in history, $100 billion was specifically designated for the aerospace and defense industry.
Looking back on past shock events, there was a decrease in M&A transactions by one third, with a larger impact on transaction values, so we should expect short-term disruption for M&A through the summer at least.
Commercial aerospace, original equipment manufacturers (OEMs), and their suppliers will likely be the hardest hit. Conversely, military, defense, and cybersecurity could help insulate the sector with a steadier outlook.
Commercial aircraft producers should anticipate continued disruption in their supply chain, as vendors and suppliers face their own operational or financial struggles.
Aerospace companies will likely consider divestiture of non-core or underperforming assets as a potential cash source.
While the chemical industry’s production continues with an “essential” classification, the uncertainty of demand, as well as supply chain disruption, has companies evaluating cost cutting and capital expenditures.
As expected in this pandemic, certain chemical sub-sectors have significant increased demand including disinfectants, packaging resins, and pharmaceutical Inputs.
In terms of input raw materials, the price crash of oil and gas benefits chemical producers with petroleum-based raw material blended products, but the current market also impacts demand for finished goods.
Even with noted headwinds in the chemical market, M&A activity continues, most notably the Huntsman acquisition of CVC Thermoset Specialties.
Construction and Engineering
The Home-Builder Sentiment Index recently fell to a reading of 30, down from 72. Any reading above 50 is considered positive. This is by far the largest sentiment drop in history and the first negative reading since 2014.
As US builders import 30 to 80% of building materials from China (steel, copper, aluminum), contractors anticipate a slowdown in the supply chain and a potential price increase as the virus progresses.
While many states have classified construction and building material suppliers as essential, the anxiety of the pandemic has delayed or suspended many large-scale projects. Construction related to the energy industry is also negatively impacted by the decline in oil prices.
M&A activity in construction and engineering is expected to slow until recession-fueled consolidation begins.
The Healthcare sector faces the unusual situation of being an essential business yet facing revenue declines and cash flow challenges as non-emergency and elective procedures are paused or postponed.
Telehealth technology has increased in demand and is influencing a change in health service provision, which may extend beyond this COVID-19 crisis.
Acquirers who foresee the behavioral change in providers and patients may find opportunities to grow through acquisition. As the New York Times noted, telemedicine went through “10 years of change in one week” as demand surged for telemedicine technology and providers overcame hesitancy to immediately adopt telemedicine. The challenges for healthcare will extend beyond the current crisis, as providers work through the mistakes of rushed adoption and likely pricing and cost challenges from insurance and other supply chain participants.
Healthcare will also look to technological solutions for staffing uncertainties, automation, and new ways of working as they balance services and workforce protections.
As these issues are worked through, M&A activity seems highly likely, as participants act quickly to stay ahead of the competition.
Industrial Manufacturing finds itself particularly vulnerable as plants have closed and the demand for industrial goods will continue to be affected by the slow economy. For companies who service the oil and gas industry, the low price of oil further complicates the dynamic.
During this critical time, industrial manufacturers may consider automation technologies to reduce workforce density and protect their workforce, but also consider cash preservation as a critical objective to work through the looming recession, which may limit spending.
As during other downturns, industrial manufacturing can quickly cut discretionary and capital spending to preserve their businesses and hopefully capitalize on opportunities to be found as a result of the chaos.
M&A activity will likely be slow in the short-term, but is expected to pick up later in the year.
Even prior to collapsing oil prices and the COVID-19 pandemic, oil and gas faced a challenging M&A environment in Q1.
Throughout previous periods of depressed oil prices, refining countered the impact on energy M&A with growing margins, volume and consequential acquisition demand. However, with oversupply and decreased demand, this time is different.
Crude exploration and production has been suspended on many drilling projects given the supply-demand imbalance.
During such a volatile time, buyers who can weather the storm may stay sidelined until the market settles, and they can pursue desirable assets for a reasonable valuation.
Transportation and Logistics
After a strong finish to 2019, M&A activity in transportation and logistics has slowed significantly, but analysts expect a pickup in deal activity later in the year.
Many transportation and logistics deals are still on the table and working, paused in diligence and waiting for the opportunity to resume and move towards completion. As with most M&A transactions, limited air travel challenges a timely closing, as most deals involve in-person facility tours, management meetings and inspections.
Future opportunities in transportation and logistics could be realized in technological disruption and the ongoing reinvention of the supply chain, or niche markets such as cold chain services or last-mile delivery.