The Verit View – April 2017
Capital, Capital Everywhere
Verit Advisors’ view is that financial capital, the fuel that drives the engine of mergers and acquisitions, is available in unprecedented amounts and from an ever growing number of sources. Putting that capital to work is the responsibility of private equity sponsors, hedge funds, corporate executives, institutional investors, and, increasingly, family offices. The existential need for deals among these varied acquirers will trump the uncertainty ushered in by the 2016 election.
Where the Dry Powder Can Be Found:
Available capital for transactions, the so-called “dry powder” of the M&A arena, can be found in unprecedented abundance today, and in many different flavors. A few data points:
- Leverage markets: Excess capital has been pushing leverage levels up, making it an attractive time to be a borrower. An increase in deal activity through Q1, in combination with lower spreads and increased leverage tolerances, has led to the best liquidity conditions since before the recession.
- Senior and Unitranche debt: Due to increasing competition and a variety of stretch senior and unitranche solutions available, companies with >$20 million in EBITDA can expect to obtain 3.25x – 4.25x EBITDA in the senior markets.
- Junior debt: Mezzanine lenders are continuing to see investment opportunities despite the increase of stretch senior and unitranche solutions. Alternative lenders continue to push for market share as regulatory oversight and market volatility have impacted traditional lending by banks and institutional investors. Borrowers can expect to add an additional 1.0x – 2.5x in additional leverage capacity through mezzanine and alternative sources of capital, for total leverage levels of 4.25x – 5.75x EBITDA.
- Corporate balance sheets: Corporates continue to move swiftly to close record deals as they sit on unprecedented amounts of cash. The S&P 500 (excluding financial services firms) cash and short-term investments balance hit a 10-year high in 3Q 2016 ($1.5 trillion) according to FactSet.
- Traditional equity: Private equity firms continue to sit on record levels of dry powder. According to Prequin, private equity managers currently have $839 billion to deploy; in combination with favorable lending markets, this plentiful capital has led private equity firms to continue to look for ways to put money to work. In addition to traditional control buy-out deals, private equity firms are increasingly willing to take minority stakes and look for smaller platform companies.
- Patient equity: Over the last decade, the number of billionaires and wealthy individuals has steadily increased. As these individuals look for ways to invest their capital, family offices and direct investments have become more common. Robert Casey, senior managing director of research at Chicago-based consultancy Family Wealth Alliance has estimated the U.S. has 3,000 family offices with more than $1.2 trillion in assets. Family offices typically provide acquired companies with a longer hold period and a more patient capital source, allowing management to pursue growth objectives without the threat of another near-term sale.
What the Abundance of Capital Means:
The laws of supply and demand are not rescinded because administrations change. They are a constant. And these laws tell us that an abundance of demand, in the form of capital looking to be deployed, drive up prices of the available supply of acquisition targets. In addition, the high supply of capital continues to keep the price of capital down. This reality is evident in transaction statistics from last year and Verit believes these immutable forces will continue to buoy M&A multiples in 2017 and beyond.
The variables that influence transaction values are numerous. One of the most important factors – the availability of capital – is clearly supporting premium multiples in today’s M&A marketplace.