You need to consider the impact of higher borrowing costs on the financial viability of an acquisition. Additionally, uncertainty may make it more difficult to predict the performance of the target business.
That said, the M&A market continues to see a high volume of deals. Part of the reason is that many older business owners are looking to retire. Some buyers are attracted by the prospect of finding good businesses to acquire at lower prices.
What can you expect in today’s market if you’re considering buying a business, and how can you protect yourself against uncertainty? Read on.
The market for mergers and acquisitions of large companies has declined, but the market for transfers of smaller companies remains strong
Post-pandemic, Canada’s M&A market saw record activity in 2021, with $ 374.5 billion in deals announced, closed or pending, according to a Bennett Jones report. In 2022, volume declined nearly 25% to $ 287 billion .
However, these figures do not tell the whole story. Although overall transaction volumes have been impacted by the current uncertainty, we are still seeing a large number of transactions in the smaller business transfer market.
Two factors largely explain this situation. First, Canada’s business owners, like the rest of the population, are aging. In fact, according to a BDC study published in 2021, 59% of business owners are 50 or older, compared to only 32% of the Canadian workforce . One in six entrepreneurs is 65 or older.
Therefore, in the 2021 study, BDC estimated that nearly 10% of small and medium-sized businesses in Canada would be for sale externally (i.e. to people other than family members or management) over the next five years. That’s 116,000 businesses.
The second factor is the expected decline in business values . Prices are under downward pressure due to higher interest rates and uncertainty about future rate increases. Financing a purchase is more expensive, and buyers may also feel constraints on the cash flow of their current business.
Lower valuations could help you spot strong businesses at attractive prices.
Although today's market is generating more uncertainty, this could be offset by the unprecedented wave of companies coming to market following the retirement of their owners.
Robert Dennison
Director, Growth Capital and Business Transfer, BDC
Is it still a good time to buy a business?
Despite higher rates, now may still be a good time to acquire a business. The most important factor in making an acquisition is the same today as it has always been: Does the acquisition meet your objectives?
An acquisition should help you achieve your strategic plan and business objectives , for example:
increase your market share
increase your profit margin
acquire new technologies
Being clear about your goals will help you find the right business to acquire at the right price.
Good reasons to buy a business in 2023
Abundant supply
Although today's market is generating more uncertainty, this could be offset by the unprecedented wave of companies entering the market at the
following the retirement of their owners. So it is probably a buyer's market.
More attractive prices
Greater financial uncertainty may help you find the right business to buy. When interest rates were lower, sellers took advantage of rising valuations and may have been less flexible about pricing or deal structure. That’s not as true today.
Difficulty predicting market direction
If you wait to make an acquisition because you think rates will fusion database eventually come down, you risk waiting a long time and missing opportunities to achieve your business goals.
Moreover, as most investors know, it is difficult to predict the direction of the market. Even specialists have a hard time doing it.
Creative financing arrangements and structures can satisfy buyers, sellers and lending institutions and improve the chances of a successful acquisition.
Robert Dennison
Director, Growth Capital and Business Transfer, BDC
For a buyer, what to expect in the current climate?
Despite the ups and downs of the economy, sellers may still be holding prices steady. People selling may be thinking in terms of last year's prices, and some have not yet adapted to today's buyer expectations and current market realities.
Financing can also be a sticking point. The buyer and seller may agree on a particular multiple, but a lending institution may have a lower valuation in mind and be reluctant to finance the full amount the buyer needs.
How can the buying party, the selling party and the lending institution reach an agreement when they have different pricing expectations? The solution lies in creative agreements and financing structures that can satisfy all parties and improve the chances of a successful acquisition.
Creative Transaction Structures
An earnings escalation clause can be used to bridge the gap between the buyer and seller's perception of the future value or earnings of a business. It is an arrangement whereby a portion of the purchase price is payable only after closing and is only paid if certain conditions are met.
The conditions are usually linked to the financial performance of the company, such as reaching a certain level of profits or sales.
The indexation to future earnings allows the seller to obtain the desired value, while the buyer mitigates the risk that the business will not achieve the expected results after the transaction. The buyer also benefits from the seller having a greater incentive to ensure the transition is successful.
For example, consider a company with EBITDA of $ 1 million . The buying and selling parties agree on a transaction price of four times EBITDA, or $ 4 million . However, they disagree on future revenues. The buyer is concerned that EBITDA after the transaction will drop to $800,000, while the seller insists that earnings will remain at $1 million.
The two sides could resolve the gap with an earnings-earnings clause. The buyer agrees to pay $ 3.2 million up front and $8 million more after the first year if the company reaches $ 1 million in EBITDA.
Example of acquisition with indexation clause on future profits
Modality Amount
BAIIA 1 million dollars
Transaction price $ 4 million
Initial payment $ 3.2 million
Payment under the indexation clause on future profits $800,000
Target EBITDA for indexation on future profits 1 million dollars
Indexation period on future profits First year following the transaction
Seller Financing
Seller financing ( also called a seller's note) is another way for the parties to reach an agreement. It is a loan that the seller provides to the buyer to help finance the acquisition.
A vendor note differs from a forward earnings release because it is repaid over a set period of time, regardless of the company's future performance.
Seller financing is commonly used if the person buying is unable to raise the full purchase price through other means, such as a bank loan and their own money.
To return to our example above, the buyer might agree to pay the full $4 million for the business, but be able to raise only $ 3 million from the bank and his own funds. To complete the purchase, he might ask for a $ 1 million seller's note (repayable, say, over five years).
