M&A activity is accelerating. With valuations marching higher and so much capital in play, companies must pay close attention to the fundamentals to create value.
By many indications, the next six to 12 months could be busy ones for mergers and acquisitions. Companies anticipating economic fallout from the global coronavirus pandemic have an accumulated war chest of more than $7.6 trillion in cash and marketable securities—and interest rates remain at record lows. Pent-up demand may kick in as the availability of vaccines increase the trifecta of CEO, investor and consumer confidence. For companies facing imminent distress, consolidation may be inevitable. For others, dealmaking may be the best, and fastest, way to fill urgent gaps in the skills, resources and technologies they need to create value down the road.
Headwinds do remain. Ongoing waves of COVID-19 continue to trigger lockdowns. High unemployment is likely to moderate demand for products and services. Global trade tensions, regulatory pressures and a presidential transition in the US create uncertainties. A strong pipeline of IPOs offers owners an alternative to M&A deals as an exit path. And the economic recovery will likely be uneven across different sectors and regions.
Yet overall, the prognosis for dealmaking in 2021 is marked by opportunity and transformation—and competition for some companies could be fierce. The pandemic and recent geopolitical developments have already led most companies to the same conclusions, pushing both deal volumes and values higher in the second half of 2020, particularly for digital and technology assets. Many stock market indices, including the Dow Jones Industrial Average, NASDAQ Composite, S&P 500, Shanghai Stock Exchange and Nikkei 225, are at or near all-time highs. IPOs are buoyant: DoorDash, for example, closed its first day of trading 86% above its initial list price [1] and Airbnb closed its first day up more than 112%.[2]
“COVID-19 gave companies a rare glimpse into their future, and many did not like what they saw. An acceleration of digitalisation and transformation of their businesses instantly became a top priority, with M&A the fastest way to make that happen—creating a highly competitive landscape for the right deals.”
Following a turbulent year in dealmaking, 2021 is likely to be marked by growing polarisation in asset valuations, the acceleration of deals in digital and technology, and increasing attention to environmental, social and governance (ESG) matters.
With rich valuations and intense competition for many digital or technology-based assets, dealmakers may feel compelled to take a more proactive—even aggressive—approach to acquire assets they want. Less desirable assets could see distressed sales at lower valuations, particularly assets in sectors more adversely impacted by COVID-19 or with business models that are no longer viable given the structural changes taking place.
Other factors expected to have a knock-on effect on deal valuations and M&A activity include an increase in restructurings and the continuation of a hot IPO market, particularly the use of special-purpose acquisition companies (SPACs) to raise capital.
M&A activity and valuations
The valuation of assets remains one of the biggest challenges to M&A success—especially when deal activity accelerates and competition heats up, as we saw in the second half of 2020. Dealmaking rebounded from June 2020 and remained strong through to year-end across all regions. In the fourth quarter of 2020, deal volumes and values were up by 2% and 18%, respectively, compared with the same quarter the prior year. Across Asia-Pacific, EMEA and the Americas, M&A activity increased by between 17% and 20% during the second half of 2020 compared to the first half of the year.
Global Deal Volumes and Values
Source: Refinitiv, Dealogic and PwC analysis
A significant increase in the number of announced megadeals—defined as deals with an announced deal value in excess of $5 billion—contributed to the increase in deal values in the second half of 2020. There were 32 megadeals in the third quarter of 2020, with an additional 25 megadeals in the fourth quarter. The combined deal value of the 57 megadeals announced in the second half of 2020 amounted to $688 billion. In contrast, there were 27 megadeals in the first half of the year, with a combined deal value of $266 billion.
Change in Global Deal Volumes and Values
*Percentage change calculated as the change in deal volume or deal value for the half year period vs. the prior year. Size of bubble represents relative size of sector based on deal volumes.
Source: Refinitiv, Dealogic and PwC analysis
The technology and telecom subsectors have seen the highest growth in deal volumes and values in the second half of 2020 compared with the second half of 2019.
Industry takeaways
- Consumer Markets
- Energy, Utilities & Resources
- Financial Services
- Health Industries
- Industrial Manufacturing & Automotive
- Private Equity
- Technology, Media & Telecommunications
Consumer Markets
- Portfolio redefinitions continue to drive M&A activity, with large retailers and fast-moving consumer goods companies showing resilience and remaining focused on value creation strategies. Dealmaking continues through a combination of acquisitions in growing categories, channels, and markets or through divestitures of non-core business components and planned exits from non-strategic markets.
- Accelerating trends include digitalisation, direct-to-consumer sales, convergence of technology with in-store experiences, contactless delivery and payment options, and ESG factors such as ethical supply chain and brand management. These trends are creating opportunities for further deal activity as businesses look to embed resilience or acquire disruptors.
- High levels of liquidity through 2021 are expected to continue to fuel M&A activity, partnerships and collaborations, a greater number of IPOs, and a rise in restructuring-led activity in consumer markets.
Energy, Utilities & Resources
- The transformation to net zero continues to have a significant impact on the energy, utilities and resources (EU&R) industry and is a key driver of M&A deal activity and capital availability. Four investor pools are emerging: legacy optimisation, net-zero rent, net-zero growth and net-zero pivot.
- Just as COVID-19 affected geographies and sectors differently, so will the recovery. The oil price shock continues to affect the oil and gas value chain, with downstream assets and offshore drillers feeling the brunt of the initial impact as assets are sold or flagged for divestment or closure. We expect exploration and production assets to be next, followed by oilfield services.
- The complexity of the decarbonisation agenda, combined with an asymmetric economic recovery, will create opportunities for partnerships and investments in technologies. M&A will likely play a key role.
Financial Services
- Low interest rates, regulatory measures, digitalisation, the move towards alternative providers and platforms, and the increasing economic impact of COVID-19 will lead to higher levels of M&A activity in the financial services industry in 2021. Financial services corporates that are able to leverage the situation to strengthen their market position will experience a positive impact, while those that need to react, or even restructure their operations, will suffer a negative effect.
- In the banking sector, we expect deal activity to gain further momentum as banks, suffering from the economic impact of COVID-19, take measures to strengthen their balance sheets and focus on optimising capital ratios through steps such as disposing of non-core businesses or distressed assets, portfolios and business segments. Many buy-side opportunities also exist, with strategic investors such as banks and other financial institutions seeking strategic and opportunistic mergers and acquisitions and well-funded private equity investors constantly searching for investments.
- Structural profitability pressure will drive consolidation of a highly fragmented financial services industry. Banks, insurance companies and asset managers will continue to seek yield in a challenging low interest rate environment, focusing on M&A opportunities to achieve scale or to further develop their business models. Fintech companies will continue to attract investors, either to support digitalisation as part of a business-model transformation or as portfolio companies for corporate venture capital funds.
- Ongoing consolidation in the asset management sector will likely accelerate as companies seek economies of scale to stabilise profitability. The transparency and pressure on fees and margins will lead not only to internal optimisation measures with a focus on reducing costs, but also to external solutions such as takeovers and mergers. Such deals, with the cooperation of both strategic and private equity investors, aim to make operating platforms more accessible and efficient. We expect investors will be attracted to new technologies such as robo-advice and algorithm-based investment advice. We also expect investors to increase their allocations to certain asset classes, such as alternative investments, infrastructure funds and ESG-focused funds.
- The wealth management sector, by contrast, is more consolidated. Along with more stable ownership, this suggests the sector will experience less M&A activity on an international level in 2021.
Health Industries
- Health industries remains an attractive industry for investors, and we expect active dealmaking to continue.
- Adoption of digital technologies is prompting large pharma to refocus on innovation-led value creation, while healthcare services are moving towards a more consumer-driven health and wellbeing operating model for service delivery.
- The pandemic will create winners and losers. Successful vaccine developers will use cash and market position to reshape the competitive landscape, while certain private hospitals, clinics and medical device companies offering fewer elective procedures may experience consolidation and restructuring.
- Medical devices, vaccines, therapies and diagnostics connected to pandemic response and future preparedness are expected to continue to have attractive value creation stories and become targets for acquisitions and tie-ups.
Industrial Manufacturing & Automotive
- Extended government support schemes cushioned the pandemic’s impact on industrial manufacturing and automotive (IM&A) companies in many parts of the world, but serious concerns about supplier distress remain in industries where demand is unlikely to recover for several years, such as commercial aerospace.
- Consolidation and vertical-integration strategies are also under consideration. For example, smaller suppliers are evaluating coming to market to address the challenges of accelerated transformation, particularly in the automotive sector. Larger manufacturing businesses are considering expanding their share of the value pool through vertical integrations.
- Another hotspot for M&A activity will be targets that give companies access to the innovative technologies that will help them keep up with industry trends, regulations and ESG commitments. These technologies vary by industry, but include batteries, autonomous vehicles, additive manufacturing, green tech materials, and the tools to monitor and report ESG performance, particularly around energy use, supply chain resiliency, and health and safety. This has sparked significant interest recently in the construction materials segment.
Private Equity
- We expect private equity (PE) firms to continue to be active in both acquisitions and divestitures as they rebalance their investment portfolios. PEs are also likely to maintain their interest in alternative sources of capital, such as SPACs, as they take advantage of the current IPO market conditions.
- Fundraising will likely favour those with a proven track record of investing through downturns or periods of uncertainty—as well as those who have demonstrated the ability to lead portfolio companies through transformative changes.
- High valuations due to strong interest from both corporate acquirers and other private markets investors may deter some PE funds from investing in some assets. But we expect competition to remain fierce for deals in which technology is central to the business model.
- In sectors hit hardest by COVID-19 or the rapid evolution in business models, we expect PE to take advantage of the opportunity to acquire both distressed assets and assets of distressed sellers.
- PE will continue its shift from traditional value levers of leverage and cost reduction to a more intensive, interventionist and innovative playbook. PE is tackling what many firms consider irrational valuations through traditional platform deals to generate synergies, combined with more nascent value creation strategies—such as aggressive digital transformation, decarbonisation and strategic repositioning—to generate multiple expansion.
- Limited partners and potential investors are continuing to focus on ESG concerns and the move to net zero emissions, which is affecting investment decisions and valuations like never before. A new sub-asset class of orphan carbon-intensive businesses could emerge as traditional PE firms turn their backs on them, potentially creating cash flow opportunities for others.
Technology, Media & Telecommunications
- Certain subsectors of the technology, media and telecommunications (TMT) industry are likely to remain highly attractive to investors after COVID-19. Some to note are recurring-revenue telecoms, digital infrastructure businesses, video games, video and music streaming, technology software and services, telehealth, health IT, digital payments and fintech.
- COVID-19 has acted as a catalyst for trends we expected to see in the future, such as the shift to remote work. As a result, we expect to see continued strength in the tech sector, specifically in software-as-a-service (SaaS), as the shift to the cloud accelerates.
- Consolidation in the semiconductor industry is likely to continue as companies position themselves for growth in mid- to high-growth areas, including 5G, data centres, cloud computing, industrial IoT and automotive. We also expect deal activity to continue in these areas in 2021.
- Demand for 5G capabilities spanning fibre, cell towers, equipment and technologies will continue to drive deal volumes for the telecom sector in 2021.
The surprising impact of COVID-19
Pricing deals may be more complex today than before COVID-19. Global shocks to the economy have historically led to lower valuations, so that’s what we expected to occur with COVID-19. Moreover, bigger companies have traditionally traded at lower price-to-earnings multiples compared with smaller ones, because investors discounted assumptions of earnings growth and potential value creation relative to a larger company’s size.
Instead, valuations are soaring, thanks to the rebound in global stock markets, an abundance of available capital and the large number of investors competing for deals. COVID-19 has amplified a recent trend of larger companies trading at a premium as they gain market power. That trend appears to hold true across most sectors, not just technology. In fact, the vaccine rollout is restoring confidence in the economy and creating expectations of rising growth rates and margins, in turn adding further buoyancy to strong valuation multiples. Typically, a stronger economy puts upward pressure on interest rates and softens valuations. But most economists expect low rates to continue for some time, and the December communication from the US Federal Reserve supports that expectation.
S&P 500 Earning Multiples by industry: 2016-2020
Note: Earnings multiple calculated as Market Capitalisation / Normalised EPS and presented as median multiple for each year.
Source: S&P Capital IQ and PwC analysis
Based on data from the S&P 500 index, earnings multiples increased across most industries over the past five years. So are valuations getting rich? When it comes to transaction multiples, it isn’t unusual for corporates to offer a 20%–30% premium over a target’s current share price, although the premiums on some recently agreed deals are much higher. For example, Gilead’s $21 billion acquisition of biotech company Immunomedics represented a premium of 108% when it was announced in September 2020.[3] And Salesforce acquired messaging company Slack Technologies for $27.7 billion—a premium of 50% above the closing share price before the talks became public.[4]
Acceleration of all things digital
Digital transformation remains a priority for many companies. As society has recentred around the home, the underlying technology to support remote working, education, shopping and entertainment has become essential, not just nice to have—and the speed at which demand has grown favours a buy-versus-build strategy for most companies. This increases the competition to acquire the necessary business infrastructure and forces premium valuations.
In a recent PwC survey, 76% of business leaders said they plan to allocate more resources to digital transformation, particularly in data analytics, automation, the cloud, customer experience, and product and service transformation. Furthermore, 53% indicated they would allocate more to M&A activity as a way to achieve their key strategic priorities. As one might expect, acquiring more digital assets leads to a more aggressive approach—and requires more discipline from dealmakers to avoid overpaying.
More aggressive dealmaking
While higher valuations often imply higher risk and lead to more selective dealmaking, M&A is currently trending towards greater competition for premium assets. Fierce demand—particularly for digital and technology companies or for companies with transformational and disruptive industry impact—is creating an urgency to win at almost any cost. The speed of dealmaking has also increased.
Competition for assets can get so intense that some buyers may be tempted to shortcut traditional steps in the dealmaking process or even jump the auction process with pre-emptive bids. Whether that means spending less time on due diligence, accepting target projections at face value or agreeing to deal terms they may not otherwise have signed off on, these trade-offs to get a deal create risk. In a hot market for companies with technology-oriented, innovative or disruptive business models, companies should instead focus on honing their approach to win these highly sought-after, mission-critical deals. Among other things, they need to challenge pre-COVID-19 assumptions about strategic fit, value creation and organizational compatibility to confirm the deal rationale. Boards and investment committees need to understand the impact of COVID-19 and ESG considerations for any transaction if they are to create value in the long term.
“With so much capital out there, good businesses are commanding high multiples... and achieving them. If this continues - and I believe it will - then the need to double down on value creation is now more relevant than ever for successful M&A.”
Discipline in dealmaking
This is not the first time we’ve seen this level of exuberance. In the late 1990s, for example, companies also faced enormous uncertainties, paradigm-shifting technologies and stiff competition for M&A transactions. Companies clamoured to acquire digital businesses, even those that lacked proven business models or had yet to generate revenue. Ultimately, many overpaid for acquisitions that fell far short when the tech bubble collapsed in 2000. We think this market is different, because today’s companies have proven business models and broad customer bases. They are generating revenue and, in some cases, profits. The challenge facing companies today is whether they can scale, given the pace of growth and disruption.
The fundamentals for successful dealmaking haven’t changed. Companies that have built clear strategies, identified acquisition targets that fit those strategies and developed relationships with those companies’ executives are well placed to accelerate their acquisition processes and create value from the deal—whether those deals are traditional M&A or joint ventures and alliances.
Importance of robust due diligence
From a due diligence perspective, dealmakers need to consider how COVID-19 has affected the target’s financial statements to establish a reliable baseline EBITDA for valuation purposes. But assessing a target’s financial projections is even more difficult than assessing the impact of COVID-19 on historical earnings. The good news is that disciplined acquirers are conducting robust due diligence, including detailed scenario analyses addressing a multitude of commercial, operational and financial variables.
Moreover, paying a high price on M&A transactions, even a premium over currently traded market values, doesn’t necessarily mean overpaying—as long as the acquirer has a clearly defined strategy for value creation. In addition to considering financial sources of value, dealmakers are increasingly attributing value to non-traditional sources such as resilience and purpose. The COVID-19 crisis clearly demonstrated the value of a resilient supply chain, for example. Greater commitment to ESG factors is also changing the way businesses are valued and their attractiveness to investors.
“The heightened importance (and difficulty) of getting comfortable with top-line growth is front of mind for dealmakers in the current environment. Identifying the structural changes which will result from COVID-19 in the longer term is particularly challenging at a time when the effects are still making themselves felt.”
How savvy dealmakers avoid overpaying
Ultimately, success is defined less by what a company acquires than by what it plans to do with that acquisition. The plan must align with the overall strategy for a company to create incremental value beyond what was apparent at the time of the transaction. PwC research has shown that companies that have well-thought-through business strategies, M&A plans to pursue transactions which align with those strategies, and a view to long-term value creation will be successful and outperform the competition.
Deal and tax structuring can help minimise exposure to certain risks. Value gaps between buyer and seller, often caused by uncertainty over whether the company can achieve its financial projections, may be effectively addressed through a variety of structuring options. These include earn-outs, entering into a minority stake investment (with an option to acquire the remaining stake at a later date) or using an acquirer’s stock as part of the consideration. These types of deal structures can help keep buyer and seller interests aligned and offer sellers the opportunity to share in the potential upside.
“The pandemic has compelled firms to reassess their strategic positions, rethink their operations, recalibrate their expectations for growth and revise their longer-term vision—and all at what seems like warp speed.”
Impact of ESG, restructurings and IPOs and SPACs on future M&A activity
Dealmakers should also place a high priority on the following factors, which are likely to have an impact on both availability of potential M&A targets and valuations:
ESG embedded in investment decisions
Corporate leaders, governments and investors considering mergers and acquisitions are paying close attention to environmental, social and governance factors. Both society and the investment community are increasingly accepting the need to address sustainability and climate change, in particular. In 2020, an increasing number of companies (including PwC) and countries made commitments to reduce carbon emissions and announced net-zero targets. In addition, several banks, institutional investors and private equity funds have made commitments to reorient their strategic directions and evaluate both existing and future investments through an ESG lens. These commitments will impact all sectors. We are already seeing investors allocate more capital to new investments in energy and renewables, reducing exposures to carbon-intensive assets, and managing the value chain in a more sustainable manner. Societal issues such as wage inequalities, diversity and inclusion, public safety, and privacy are also a focus of greater attention and transparency. The message is clear—ESG is now being built into the core of organisations, through their purposes and missions. It is now a factor in both investment decisions and value.
“PE firms have historically led the dealmaking world—creating value by taking out costs, playing the cycles effectively, and using leverage and efficient capital structures. As carbon and other ESG factors are increasingly seen as a cost, whether through direct taxation or limits on output, or investor and consumer demand for reductions, PE has the opportunity to lead in this new value creation arena.”
Restructuring
Companies moved quickly to focus on a combination of liquidity, loan forbearance and government relief measures such as loan guarantees, paid furloughs, tax holidays and moratoria on insolvency actions. The early action resulted in lower levels of distress than anticipated in many territories and sectors. While these actions may have eased the pressure to restructure and turn around troubled businesses, we expect a sharp increase in restructuring activity once support ends. In the US, where the Chapter 11 process provides a framework and protection to help companies restructure their operations, 2020 has seen more corporate bankruptcies than in any year since 2010. Consumer discretionary, industrials and energy have experienced the most restructuring.[5]
IPOs and special-purpose acquisition companies
Historically, strong IPO markets compete with M&A, as company owners may choose a richer exit through the equity markets. In the second half of 2020, investor demand for innovative, high-growth technology-oriented businesses spilled over into the IPO market. In the third quarter of 2020, 481 IPOs raised $122 billion, more than in the first two quarters combined. The fourth quarter of 2020 outperformed the third quarter, with 528 IPOs and $129 billion in proceeds.
In 2020, special-purpose acquisition companies (SPACs) raised about $70 billion in capital and accounted for more than half of all US IPOs. Private equity (PE) firms have been key players in the recent SPAC boom, finding them a useful alternative source of capital. We expect more SPAC activity in 2021, especially involving assets such as electric vehicle charging infrastructure, power storage and healthcare technology.
Footnotes:
[1] Erin Griffith, ‘DoorDash Soars in First Day of Trading’, New York Times, 9 December 2020, accessed 13 January 2021, https://www.nytimes.com/2020/12/09/technology/doordash-ipo-stock.html ↩︎︎
[2] Luisa Beltran, ‘Airbnb Stock Closes at $144 After Pricing IPO at $68 a Share’, Barron’s, 10 December 2020, accessed 13 January 2021, https://www.barrons.com/articles/airbnb-prices-ipo-at-68-a-share-raising-3-5-billion-51607560437 ↩︎︎
[3] Cara Lombardo, ‘Gilead reaches $21 billion deal for Immunomedics’, MarketWatch, 13 September 2020, accessed 13 January 2021, https://www.marketwatch.com/story/gilead-reaches-21-billion-deal-for-immunomedics-2020-09-13 ↩︎︎
[4] Aaron Tilley, ‘Salesforce Confirms Deal to Buy Slack for $27.7 Billion’, Wall Street Journal, 1 December 2020, accessed 13 January 2021, https://www.wsj.com/articles/salesforce-confirms-deal-to-buy-slack-for-27-7-billion-11606857925. ↩︎︎
[5] Tayyeba Irum, Chris Hudgins, ‘US bankruptcies surpass 600 in 2020 as coronavirus-era filings keep climbing’, S&P Global Market Intelligence, 15 December 2020, accessed 13 January 2021, https://www.spglobal.com/marketintelligence/en/news-insights/latest-news-headlines/us-bankruptcies-surpass-600-in-2020-as-coronavirus-era-filings-keep-climbing-61734090 ↩︎︎
About the data
We have based our commentary on M&A trends on data provided by industry-recognised sources. Specifically, values and volumes referenced in this publication are based on officially announced transactions, excluding rumoured and withdrawn transactions, as provided by Refinitiv as of 31 December 2020 and as accessed on 3 January 2021. This has been supplemented by additional information from Dealogic and our independent research. This document includes data derived from data provided under license by Dealogic. Dealogic retains and reserves all rights in such licensed data. Certain adjustments have been made to the source information to align with PwC’s industry mapping. We define megadeals as transactions with a deal value greater than US$5 billion.
Related content
Contact us
