• Lower middle market private equity deal activity tracked by GF Data Resources increased 91% from 2009 to 2010
• Some Q4 activity likely driven by fear of tax hikes, though credit availability and valuation data were nevertheless strong in Q4 2010
• Levels of private equity and strategic buyer “dry powder” remain high, and M&A continues to be a priority for strategic buyers in 2011
• Commodity price indices are up 30+% year-over-year, creating hesitation among some sellers/buyers subject to commodity price risk

Commodity Price Indices (last twelve months) Source – Bloomberg

Uncertainty seems to be a common theme these days. At the macroeconomic level, sentiment is mixed as to whether or not we are in a sustainable recovery. One headline touts that the unemployment rate is down, while the next one reminds us that the participation rate is declining and creating a denominator effect. Political unrest abroad has sent oil prices spiking along with most other commodities, but the stability of these price levels remains in question. Consumer confidence continues to rise, but consumer spending remains mostly flat.

Uncertainty at the macro level filters down to many owners of privately-held or family-owned businesses. They’re faced with questions such as what raw material prices will be in 30 days, can price increases be passed through, how many days of inventory will customers buy, is it safe to re-hire, and is now the time for CAPEX? These aren’t easily answered in the current environment. The only certainty right now is uncertainty.

Deal Flow Spikes in Q4

According to GF Data Resources, private company transaction volume increased 38% from Q3 to Q4 2010. Some of this activity was driven by seller fears over tax increases, which were ultimately avoided by a last-minute compromise. GF Data reported full-year 2010 activity up 91% over 2009 (147 transactions in 2010 versus 77 in 2009).

Valuations Steady From Q3 to Q4

Valuations held steady at 6.1x EBITDA from Q3 to Q4. Valuations remain below the 6.5x level seen in Q2 2009, though this is a somewhat misleading number. Only very high quality transactions were being completed at that time (16 in the quarter), thus multiples were skewed high. While valuations are slightly down from this level, 6.1x across 58 transactions indicates buyers are less selective and competition for deals is keeping multiples at a favorable level for sellers. 

Debt Market Signs of Life

Activity in the debt markets has been trending favorably for borrowers with high investor demand for new loans. Data from Thomson Reuters shows interest rates on new deals (4-yr term) declining from 9.5% in early 2009 to below 7% in Q4 2010. Expectations suggest interest rates will remain low through 2011 and begin to shift upward in 2012.

On the Horizon

The high volume of transaction activity in Q4 has led to a break thus far in 2011 as deals were pushed aggressively through buyers’ pipelines in Q4. However, financial and strategic buyers continue to have large cash stockpiles they are seeking to put to work. Thus acquisition demand remains high, and sellers who are considering taking their company to market in the near-term may find a captive buyer audience after so many other sellers completed their deals last quarter.

*Data in this report is used with permission from GF Data Resources, LLC. All recipients agree to be subject to, and comply with the GF Data Resources Terms of Use.