For the first time in the last 18 months, the prognosis for the market looks murky, according to a new analysis by KKR. The litany of contaminants starts and ends with war—will the Russia/Ukraine conflict stoke European recession, commodity cycle interruption, consumer energy spending, or already present inflation? Let’s examine the read-through to M&A.

“We continue to expect more muted returns at this point in the cycle, particularly amidst tighter financial conditions, decelerating growth and stubbornly high energy prices,” write KKR analysts in the firm’s recently released State of Play report. “Importantly, in aggregate for the S&P 500, we expect higher wages to persist — if not intensify — in coming years. As such, we believe sectors and companies with pricing power and operating leverage who are able to capitalize on cost efficiencies and falling rental expenses are likely to command a premium in the market.”

Sound familiar? Industries able to pass costs to consumers have been in demand for at least a year. Co-head of 3i’s North American private equity unit Andrew Olinick told us last summer that 3i’s business services-tilted portfolio was able to pass along price increases to consumers, though the firm was also increasing due diligence efforts to analyze exposure to inflationary pressures from new targets.

Private equity could also use structured capital to mitigate the “tighter financial conditions” described above. 3i acquires companies with its own proprietary capital, allowing the firm to play the long game in investments without enduring the ire of return horizon-conscious LPs. On the other side of the spectrum, VSS Capital’s use of a relatively small amount of debt could help return profiles when debt markets feel the pinch of higher interest rates.

Sponsors are already adapting to the newly arrived dealmaking environment.

Brandon Zero