Middle-Market Company Performance and M&A Activity Improving
There are increasing indications that middle-market businesses are performing better. As a result, banks and other sources of debt seem to be more willing to lend, middle-market merger and acquisition activity is beginning to pick up, and valuations are improving.
Business owners across a broad number of industries are reporting an uptick in revenue and earnings. Bankers and private equity firms are telling us that many of their portfolio companies that have weathered the economic storm are not just stabilizing but are also showing month-to-month improvement. The Wall Street Journal of April 30 estimated that GDP would rise at a 3.5% annualized rate for Q1 ’10, business spending on equipment and software was growing at an 8% pace and consumer spending was growing at by nearly 4% - twice that of the prior quarter and its third consecutive increase . Though many banks are still at risk, others are lending again. There seems to be an increased domestic and foreign demand for U.S. products and services. All good signs!
…And our WSJ Headline Economic Gauge for March and April ‘10 confirms that the economy is clearly on the mend. Followers of our blog will recall that we created our WSJ Headline Economic Gauge under the premise that the tone of the business headlines in the Wall Street Journal will provide a clear indication of when the economy is turning or has turned around. (Count the number of WSJ business article headlines that are positive, neutral, and negative in each edition; when the balance changes from negative to positive, we will be able to tell the economy is improving.) In March ’09, we began tracking the WSJ headlines in each Friday edition and below we summarize the results quarterly for 2009 and monthly for 2010. March ’10 shows a strong 49% of the articles positive, 38% negative, and 13% neutral; and April shows a whopping 60% positive, 32% negative, and 8% neutral—the best results we have seen since we began the Gauge!
Month-------------Positive--------Neutral--------Negative-----Total Headlines
Mar. ’09------------18/26% -----------6/9% ----------45/65% ----------69
Q2 ’09------------140/30% ---------65/14% -------263/56% ---------468
Q3 ’09------------156/37% ---------46/11% --------216/52% --------418
Q4 ’09 ------------179/41% --------59/14% --------194/45% --------432
Jan. ’10 ------------51/34% ---------20/13% ---------78/52% --------149
Feb ’10 ------------54/41% ---------15/11% ---------64/48% --------133
Mar. ’10------------46/49%----------12/13%----------35/38%---------130
Mar. ’09------------18/26% -----------6/9% ----------45/65% ----------69
Q2 ’09------------140/30% ---------65/14% -------263/56% ---------468
Q3 ’09------------156/37% ---------46/11% --------216/52% --------418
Q4 ’09 ------------179/41% --------59/14% --------194/45% --------432
Jan. ’10 ------------51/34% ---------20/13% ---------78/52% --------149
Feb ’10 ------------54/41% ---------15/11% ---------64/48% --------133
Mar. ’10------------46/49%----------12/13%----------35/38%---------130
Apr. ’10-----------110/60%----------15/8%-----------59/32%----------184
Due largely to the long-awaited upturn in business activity in addition to pent-up demand on both the buy and sell side and the increased availability of leverage, M&A activity is also picking up, having started with larger transactions and, more recently, increasing in the middle-market. On the sell side, private equity firms need liquidity events in their portfolios. Additionally, business owners—particularly “baby-boomer” business owners—who may be looking to retire but have not been able to get the desired value in selling their companies, are seeking liquidity. With an up-tick in business activity and the prospect of increased capital gains tax rates in 2011, many business owners with whom we have been speaking for some time are now coming to us saying they are ready to consider a sale or at least a recapitalization.
On the buy side, both domestic and foreign corporations see growth by acquisition as a necessity. It is reported that there is in excess of $1 trillion on the balance sheets of domestic corporations and foreign corporations still see investing in U.S. companies as safer than investing in other areas. Furthermore, private equity firms are sitting on committed but un-invested funds reportedly somewhere in the neighborhood of $400 billion. Those firms need to either make investments or risk returning commitments to limited partners.
As reported by Thompson Financial and others, overall middle market disclosed deal activity is rebounding. Both deal volume and number of transactions for deals with enterprise values of $10M to $250M are up for the past four successive quarters. While we do not think that valuations for middle-market transactions will return to the unsustainable levels of mid 2007, we expect valuation multiples to slowly increase as debt becomes more available and business performance improves.
While all of this points to improving M&A activity, lenders and investors remain cautious in the face of continuing high unemployment and underemployment, in addition to being concerned about both the residential and commercial real estate markets and the ongoing financial problems of the federal, state, and local governments. Nonetheless, with the many positive signs of an improving economy, we believe it is a good time for middle-market business owners to explore financing alternatives and the possible sale of part or all of their company.
