2021 Trends in Lower Middle Market Mergers & Acquisitions

M&A Deal Activity is Accelerating

M&A activity for private companies in the lower middle market ($5 million – $100 million in deal size) is accelerating and will likely continue to be strong for the next six to twelve months, if not longer. Even amongst all the chaos and uncertainty of the pandemic and anemic deal activity in the second quarter of 2020, the year ended with some of the strongest deal volume in years, likely due to pent up demand and significant cash on the sidelines. Contacting an M&A attorney should be a priority prior to initiating conversations with potential buyers, so you’re making the right moves to best protect your interests and your assets.

Private Equity’s Need to Deploy Capital is Driving M&A Activity

The first quarter of 2021 also looked bright from an M&A perspective. During this period, private company M&A deal volume is up almost three percent year-over-year and deal values are up over 4 percent year-over-year. Further, private equity closed more than ten percent more deals in the first quarter of 2021 from the same period in 2020. While private equity platform investments (the initial investment into a new industry by a private equity company intending to do additional acquisitions in the same industry) declined quite a bit from last year, add-on acquisitions (companies acquired by a private company that are added on or rolled into a prior platform acquisition in the same industry) were up significantly and continue to be the dominant focus of lower middle market PE groups.

Strategic Buyers are Paying Higher Multiples to Capitalize on Synergies

The acceleration of technological advancements and digitalization stemming from the pandemic are causing many industries to restructure to stay competitive in the post-COVID environment. This is resulting in increased deal volume from strategic buyers. It appears that EBITDA multiples will likely continue to rise in most industries as a result of this activity, with strategic buyers likely to pay higher multiples than PE firms with the hopes of gaining synergistic value in the long run. As expected, even with these trends, targets lacking strong industry penetration and revenue growth are not seeing the robust EBITDA multiples.

Potential Tax Increases on the Horizon

Looking ahead, the Biden administration proposes to increase the corporate tax rate from 21 percent to 28 percent. On the individual tax side, the Biden administration has proposed increases to the top rate on ordinary income from 37 percent to 39.6 percent for those taxpayers earning more than $400,000. He has also proposed raising the capital gains rate and dividends rate from 20 percent to ordinary income rates of 39.6 percent for those making more than $1 million. For business owners looking to exit in the near term, this could drastically increase the tax burden and reduce the after-tax proceeds on sales. Regardless of whether these proposals are passed into law, the mere possibility will likely drive significant deal pipelines as business owners look to exit ahead of the tax increases.

M&A Deal Volume and Multiples Should Remain Strong in Near Term

While headwinds remain in the post COVID environment, the prognosis generally looks good for M&A activity in the near term. Increased competition from buyers, pent-up demand, low interest rates, and significant cash reserves should continue to strengthen balance sheets and drive deal volume and deal prices higher in the next 12 months.

To Learn More About Middle Market M&A Trends, Reach Out to One of Our Raleigh Business Attorneys

For more information about the M&A climate or to discuss your needs for buying or selling a business, please call Jason Schneider at Schneider Law Group at (919) 324-3600.

Schneider Law Group is a boutique business law firm in Raleigh, NC focused on general corporate law, mergers and acquisitions, securities law and tax strategy for growth-oriented businesses.