Ninety-five percent of CEOs say they failed to complete or canceled a planned M&A deal over the past 12 months. They believe the unfavorable economic environment is disrupting M&A activity right now but a rebound could be imminent as bright spots emerge.

These findings came from a recent EY’s CEO Outlook Pulse Survey, a survey of over 750 CEOs worldwide.

“Currently, the market is seeing about 20-30 significant (U.S. $100m and up) PE deals every month, versus a pre-pandemic average of 35-40, and around 70 at the height of last year’s recovery,” says Andrea Guerzoni, EY global vice chair, strategy and transactions. “One of the primary reasons for the decline is the state of the financing markets.”

According to the report, a trifecta of inflation, geopolitical uncertainty, and lingering issues from the Covid-19 response has driven the financing market to where it is now. Guerzoni believes sectors such as consumer, industrials, leisure, and hospitality are likely to be more exposed to these factors and face higher levels of distress.

However, valuations have adjusted enough in some pockets to attract the attention of institutional investors and private equity firms. “Private credit providers have been very active in filling the gaps,” says Guerzoni. “Operational value creation will remain front-and-center amid an environment where leverage continues to get increasingly expensive, and where, in a major reversal from the last several years, multiples are likely to contract.”

“At the beginning of the year, seller expectations were based on forward-year revenue multiples and now they’re based on current year Ebitda multiples, ” says Richard de Silva, founder and managing partner of Lateral Investment Management, and chairman of its investment committee. Lateral has completed two major acquisitions this year. Contracting multiples has convinced the team to look for more deals in the near future.

“We’re excited,” says De Silva. “Fundamentally strong growth companies are available at better prices now. So our pipeline is full and we have several LOIs (letters of intent) in process.” He explains that enterprise businesses with growth potential are particularly attractive in this environment.

De Silva’s sentiments about consumer businesses echo the findings of the EY M&A report. Higher inflation and interest rates are likely to dampen consumer spending. But the same factors could make some enterprise services more attractive. For instance, rising mortgage rates could create more demand for home equity lines of credit. Based on this thesis, the Lateral team invested $35 million in FirstClose Inc., a fintech startup that provides underwriting workflow automation technology, point-of-sale software, and data services for the U.S. home equity and mortgage markets.

The Lateral team is seeing similar opportunities created by geopolitical tensions that could make domestic manufacturing and reshoring more attractive. Other PE firms could be seeing these opportunities too and with plenty of dry powder available that could drive M&A activity higher in the months ahead, according to EY’s Guerzoni.

Vishesh Raisinghani