The Dog Days of Summer. Always a good time to reflect. Last summer, we noted that factors were coalescing to drive sales of private companies higher (See article below from August 2013). This analysis was on target. Sales of private companies have been higher than at any time since the beginning of the Great Recession. However, activity remains lower than one would expect. Why? Where is the Great Flood of private company sale activity that would reflect six years of pent up owner desire to sell when the market and financial performance have improved?
The stock market is at all-time highs. The IPO calendar is full. Interest rates are low and are expected to remain low for the foreseeable future. Financing for deals has rebounded dramatically on both a secured and unsecured basis. Cash Flow lending is back. Company balance sheets are healthy and the trend line of increased revenues and EBITDA have been reestablished. Private equity money is near all-time highs. Strategic buyers have plenty of currency with excess cash, delevered balance sheets, plenty of ability to obtain low cost funds and high stock prices. Sale multiples are high for good performing private businesses.
Given the above, and if you believe in the mathematical concept of reversion to the mean, one would expect that six years of below normal private company sale activity would eventually result in many years of higher than normal deal activity. Yes, we have seen an increase in activity. But, where is the Great Flood of activity?
A few factors seem to be holding back the Great Flood. One, the depth, breadth and SPEED of the Great Recession is still affecting CONFIDENCE. In a span of only two weeks from September 15, 2008-September 30, 2008, we saw the stock market dive, liquidity dry up and many household name companies fail or seek marriages due to their weakened condition-Washington Mutual, Bear Stearns, Lehman, AIG, Countrywide.
Many business owners simply “aren’t drinking the Koolaid” of a stock market at all-time highs and there is mounting concern over a significant correction. Why? GDP growth remains low, employment growth for good jobs remains low and the Fed plans to stop its Quantitative Easing Program this Autumn. The Fed is about to take the training wheels off the economy and see how it rides on its own. Given recent geo-political events, this is a very dangerous time. Some owners have chosen to sell now to avoid the correction. Other owners have continued to batten down the hatches and defer a sale. Why?
Coupled with the lack of confidence, there are two primary factors owners cite in deferring a sale. In no particular order, folks are living longer and feel a need to work longer to be sure the proceeds from a sale last long enough. Second, owners cite a lack of alternative investment yields at appropriate risk levels. Bond rates continue to be low. When owners look at the stock market, they fear a significant correction. Therefore, they say “why not just keep the equity I have in my company, reap the dividends of my company profits and I can control my business better than I can predict what will have in the stock market”. They would rather bet on themselves and remain undiversified than sell and diversify those funds in any combination of lower yielding bonds, a perceived overvalued stock market where they have less control or a real estate market that is also at highs in many areas.
However, Father Time will require owners to constantly reassess this hold strategy. They will likely trickle out into the sale market over time rather than en masse. Therefore, the recent increase in private sale activity will continue and is less likely to turn into a Great Flood of activity. However, activity could also slow to a halt if a significant correction occurs. Remember 2008.