The mergers and acquisitions market in Australia has strengthened recently, especially for the mid-market, according to a recent report from accounting firm Pitcher Partners, Dealmakers: Mid-market M&A in Australia 2017.
However, for savvy Chief Financial Officers preparing a business for sale, achieving a successful sale at the best price might involve making sure the asset hits the market in the best possible condition.
The report notes that dealflow in 2017 was expected to be 20 per cent higher than in 2016. In particular, a strong dealflow is predicted for the pharmaceutical, medical and biotech sectors.
As the report states, “Consumer and business services are expected to increase in activity, building on their strong performances along the Eastern seaboard states of Victoria, South Australia and New South Wales. Victoria will continue to reign supreme for the business services sector, along with the Australian Capital Territory."
Healthcare, consumer and fintech industries are also driving deals now, as these sectors seek partners both with great technology along with funds and management expertise to enhance their business.
According to the report, “While [these sectors] have yet to hit their strides in terms of deal-making, we expect the optimism and consumer confidence transpiring, due to low interest rates making debt cheap and more readily available, will be the impetus they need to spur them to action."
Pitcher Partners' partner Michael Sonego says that many finance chiefs are looking to drive the growth of their business through deals.
“CFOs see growth coming through strategic acquisitions that enable a company to grow into a sector that it's currently not already in, whether it's a new market, offering or technology that enables the company to leverage its organic growth," he says.
Sonego says there's a big difference between the deals done at a mid-market level and the deals done by big businesses.
“Big business deals are typically being conducted at a global scale; here I am talking about deals of more than $250 million," he says.
“Whereas in the mid-market, any deals between $10 million and $250 million provide great flexibility for acquirers. These deals may involve an international group, private equity firm or domestic business looking for a footprint in Australia or a bolt on acquisition," he explains.
One current example is the investment made by private equity firm Quadrant, in gym network Fitness First Group. It's a deal that fits well with Quadrant's existing investments in two other fitness-related businesses, Goodness Health Clubs and gym chain Jetts Fitness.
According to Pitcher Partner's figures, the mid-market makes up the lion's share of all transactions completed in Australia, accounting for around 66 per cent of all deals.
Sonego says there are a variety of reasons why mid-market deals get done.
“These businesses are of a size that enables a great deal of flexibility around acquisitions. Different businesses have different visions for assets in the market. Management may want access to a new market or new products and technologies," says Sonego.
“Or they may be looking for the efficiencies that come from an acquisition. And of course, then there are the aggregators who are pulling everything together and getting all the synergies that come from combining businesses," he adds.
Market attributes
Market dynamics have changed markedly in recent years. After the financial crisis of 2007/2008, the M&A market became extremely subdued. However, that's all since changed.
“At the moment it's more of a buyer's market. We've seen a real influx of businesses coming onto the market. Pre-GFC, there was quite a lot of transactions. Then, asset values dropped. People held onto their businesses and turned them around," says Sonego.
“Over the last 18 months we've started to see some of those businesses come to market. But for every business that is sold, there are a number that are not. People who think they can take their business to market with average operations are being reminded by buyers that is not the case anymore," he adds.
Sonego says that to sell a business, it must be made ready for sale - in order to complete the deal, not just to get a good price.
“People are bringing businesses to market that are not totally ready. They don't have robust financial information. They don't have a management structure in place. The business depends on too few individuals. They don't have agreements in place with their customers or their suppliers that enable the business to transition comfortably to a new owner," he says.
After the financial crisis, many businesses took a much more aggressive approach to transferring the risk associated with transactions, to get the market moving. This remains a feature of the market.
Says Sonego: “Almost all transactions have warranties as part of the sale and purchase agreement. Warranty and indemnity insurance is also becoming more common."
He says transactions that involve warranty and indemnity insurance may need to undergo a more robust due diligence process, so that the insurer can achieve comfort in the terms and risks around the deal.
Warranty and indemnity insurance can potentially indemnify both buyers and sellers in a transaction. Triggers for the policy would generally involve something from the business's past coming to the surface.
“It doesn't suit everyone, but it can provide a way forward in certain transactions," Sonego says.
“There are also different ways to structure transactions to manage risk and ensure both parties are satisfied with proceeding with a deal."
As for the outlook for mid-market transactions in 2018, Pitcher Partners anticipates a strong pipeline of deals across all sectors, as economic conditions continue to improve to support the M&A outlook.
“The consumer and services sectors have always performed well and we'd expect to see this continue into next year. The fintech sector is likely to appeal for dealmakers given the impetus to innovate and meet the challenges of technological disruption," says Sonego.
“Deal activity in the new year will primarily be driven by dealmakers' desire to increase and diversify revenue streams through acquisitions, reaching new customers and acquiring new technology and intellectual property," he adds.
Pitcher Partners will release the 2018 Dealmakers Outlook in February 2018.
Key Takeaways
A successful deal in the mid-market involves ensuring the asset for sale has:
- Accurate and verifiable financial information.
- A proper management structure.
- Sound agreements in place with customers and suppliers.