The Big Picture: 2023 M&A Outlook

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A look ahead to the key strategic trends expected to impact the overall M&A environment and some key sectors. 

Introduction  

The volatile equity markets, rising interest rates and economic uncertainty have weighed on M&A activity. The lower equity valuations have reduced buyers’ purchasing power, and the higher cost of financing has increased the cost of making acquisitions. Escalating inflation and geopolitical turmoil stemming from the war in Ukraine have weakened executive confidence, which is a key driver to M&A. The structural headwinds have pushed many buyers in the private equity industry to the sidelines and have greatly reduced the number of large transformational transactions that led to record-setting M&A in 2021.  

The Take  

Overall M&A activity plummeted in 2022, and a sharp turnaround is not on the near-term horizon.  

Central banks have been raising interest rates to combat inflation. The moves hurt M&A as they led to equity market volatility and increased cost of acquisition financing. Companies have been able to absorb the increased costs on their debt because corporations were flush with cash coming out of the pandemic thanks to government stimulus efforts. However, many have been burning through reserves, and the higher cost of financing will eventually force more sellers into the market.  

An increase in distressed sellers should create more opportunities for financial sponsors. For much of 2022, M&A has become less appealing for many private equity firms because the higher cost of debt makes it more challenging to reach return hurdles through the use of leverage. However, the private equity industry has plenty of dry powder and will look to put it to use.  

The difficult operating environment can lead to divestitures of noncore assets as companies look to shore up balance sheets. Utilities is one sector that is seeing such strategic reviews. 

Among corporate buyers, large transformational transactions have become less common after an acceleration of $10 billion-plus deal announcements in the first half of 2022 and throughout 2021. During those periods, companies in the technology, media and telecommunications space along with the banking sector executed a number of large transactions. However, TMT and banking are among the sectors that have seen increased regulatory scrutiny on M&A transactions. The increased oversight of transactions is expected to remain in place throughout the Biden administration.  

Some drivers for M&A do remain. One longer-term dealmaking trend still playing out is technology-driven disruption. Enhancing technology can help companies take out cost and appeal to new customer bases, both of which become more critical against a bleak economic backdrop.  

The combination of higher interest rates and lower equity valuations are creating significant headwinds for M&A activity. The higher rates increase the cost of acquisition financing and are pushing some buyers that rely on leverage — such as private equity firms — to the dealmaking sidelines. The lower equity valuations are weakening the currency for buyers, giving them less wherewithal to make deals. When stocks are down, companies are more reluctant to issue shares at depressed prices and use the proceeds to fund M&A. Also, the lower stock prices bring down the valuations for targets — whether they are public or private — and potential sellers are reluctant to pull the trigger on deals at the lower valuations.   

The overall economic backdrop is also slowing down M&A. With recessionary fears growing, the outlook for the operating environment is less favorable. Executive confidence is a key factor in dealmaking. Executives are less confident when the economic is murky.