Graeme Frazier is a partner in GF Data Resources LLC, which provides reliable transaction data on lower middle market transactions completed by private equity sponsors with $10mm to $250mm in enterprise value, and he is also president of Private Capital Research LLC, a consulting firm that provides investment opportunities to middle-market private equity firms and corporate clients.
• Overall, the market is very robust across the board. The Southeast is as healthy, if not healthier, than any other market in the country.
• Q1 was statistically similar to Q4, which bodes very well for the market. Historically, the volume of M&A deals tends to decline by about 25 percent from Q4 to Q1. Valuations were also up in Q1 2015. We’re likely to see a record year if things continue with this momentum.
• The average EBITDA multiples at which companies are selling were at historic levels in several market segments in Q1 2015. For example, the average multiple for healthcare services companies was 8.1x, and it was 7.7x for technology deals completed by private equity sponsors. Other notably robust sector multiples included 7.3x in publishing/media, 7.3x for distribution, 6.7x in business services and 6.6x in manufacturing.
• While this may all seem too good to be true, it isn’t. The fundamentals don’t appear to be incredibly overheated; debt multiples are up but not over the top and pricing on leverage is reasonable.
• Owners need to consider risks from the buyer’s perspective. Sellers tend to have blind spots for things relative to real estate leases, supplier contracts and customer contracts.
• Finding the right private equity partner is critical. Sellers should be looking for someone who has experience with similar companies and who thoroughly understands the industry. The right partner should have experts on staff and a proven track record of companies they’ve done business with.
Q. How does the Southeast compare to the rest of the country in terms of access to capital and M&A activity?
A. The Southeast is a very robust and healthy market by all indications. There’s strong private equity activity for established companies and it’s also a good environment for other types of capital, including mezzanine, growth equity, and senior debt facilities.
The Texas market is the only area that has been an anomaly. The downturn in the price of oil has made that area an outlier, but in general the South is as healthy, or healthier than any other area in the country.
Q. What are the drivers behind that strength?
A. There are a lot of people migrating into the area, and there are a significant number of established companies in the region, such as those founded immediately after WWII when the economy was expanding. We’re now getting into second and third generation ownership of these businesses and this demographic transition puts the Southeast in a great spot from an M&A perspective, which in turn attracts capital and professionals to the area. Also, there are a lot of banks in the Southeast and that spawns M&A activity.
Q. How is M&A activity across the country?
A. GF Data® has been studying private equity transactions across the nation since 2003. Q1 is typically the slowest quarter of the year and on average there is a 25 percent decline from Q4 in the volume of deals closed. However, Q1 did not show that decrease this year; it was statistically similar to Q4. This bodes really well for the market going forward in 2015.
Valuations were also up in Q1. Use of leverage is driving volume and EBITDA multiples in private equity sponsored transactions, and the availability of debt financing is as robust as we’ve seen it. There’s a lot of momentum and we’re setting up for what will likely be a record year in terms of volume and valuations.
Q. Is it a seller’s market?
A. Without question, it is definitely a seller’s market right now. There is a lot of equity capital available and it’s as good of an environment as we’ve ever seen for those with high quality businesses looking to sell.
Q. Do you have a sense of what industries are performing well right now?
A. Yes. For Q1 the hottest segments were healthcare services with an average EBITDA multiple of 8.1; technology, with an average multiple of 7.7; publishing/media at 7.3; and distribution, also with an average of 7.3. Business services deals traded at an average multiple of 6.7x and manufacturing was at 6.6x, the highest average multiple we have recorded at GF Data. We’re looking at multiples of EBITDA on trailing twelve month financial performance in all of these categories.
Q. Does this seem like a bubble? Are these numbers too good to be true?
A. Not really. We’re in an environment that’s been very slow to recover from the last recession. At GF Data, we host roundtables with law firms around the country to take a pulse on different sectors, and what we’re hearing is that the fundamentals don’t appear to be incredibly overheated right now. Debt multiples are up, but not over the top, and pricing on leverage is reasonable.
Q. What should business owners keep in mind in regards to preparing to sell?
A. It takes a lot of preparation to yield the best outcome and getting professional help makes a huge impact. Oftentimes, businesses come to market before they’re adequately prepared and that can cause a deal to fall apart. Owners need to understand how a buyer is going to view the deal and understand what buyers see in terms of risk. Advisors help owners see things from a buyer’s perspective.
One type of risk sellers should consider is customer concentration. From the buyer’s perspective, it’s a significant risk if a business has a single customer that accounts for 20-30 percent of total revenue. Business owners need to diversify revenue and expand their customer base if they want to maximize the likelihood of selling their company at a higher multiple.
Buyers are also looking at margins. Margins tell a lot about pricing power and a firm’s standing in the marketplace. When looking to purchase a company, buyers also consider the depth and continuity of the management team. If the entire company depends on the owner/CEO and he or she wants to retire, the buyer is going to have to build a management team or have a solution in mind for that – and this may present a higher risk profile to certain buyers, and could mean one more reason to offer a lower multiple, or not to do the deal at all.
Sellers tend to have blind spots for things relative to real estate leases, supplier contracts and customer contracts. A lot of times folks will be doing business for years without ever solidifying a formal contract, and loose ends like that can cause a deal to fall apart if not addressed in advance of a sale process.
Q. What should sellers be looking for in a private equity partner?
A. Finding the right partner is crucial. Sellers should be looking for someone who understands the industry and has a measure of institutional knowledge. This means having experience with a similar kind of company and having industry experts on their staff. Ideally, a private equity partner would be willing to give you the names of CEOs they’ve done transactions with in the past and let you speak to those folks about how they’ve added value to their organizations.
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