What is the impact of a recession on a merger and acquisition deal?
Economic slowdown, scarcer financing, valuations under pressure: a recession changes the game for a merger or acquisition. Here is how it works and how to value your company in this context.
In this article, we will explore the different ways a recession can impact a merger and acquisition transaction and we will also give you some tips on how to establish the value of your company during these turbulent times. As we enter periods of uncertainty, it is more important than ever for companies (and their investors) to be strategic when faced with difficult circumstances such as economic downturns or natural disasters – which often lead to large-scale corporate bankruptcies!
In order not to risk being entirely on the losing side because our assumptions did not materialise, here are three things to consider before setting up a future deal: The sector in which you operate may become less profitable due to competition from other companies vying for contracts at similar prices.
Impact of a recession on company value
A number of factors can contribute to a decrease in a company's value during a recession, notably:
When consumers feel the pinch, they may not spend as much money on non-essential items. This can lead to a decline in revenue and profitability for companies that provide discretionary products or services, such as clothing stores, in times of economic crisis, because people find themselves short of money, especially after paying for essentials such as bills and household expenses.
In times of economic crisis, it becomes more difficult for companies to borrow money. Indeed, lenders are reluctant to take risks and want to be sure they can recover what has been lent before granting lines of credit or loans – which can prevent some companies from having access to something essential that would support their growth initiatives in difficult situations.
The increase in costs associated with financing during recessions means that business owners may struggle to obtain the capital needed not only to grow but also to keep operations running smoothly.
Difficult economic times have led to an increased level of competition in the market, which can be seen as both a good and a bad thing. The advantage is that it forces companies to lower their prices; However, if they are not careful enough, they risk landing back on their feet, because demand for goods and services may be lower than before due to the weakness of consumers' purchasing power. (who make up the majority of customers).
Determining the value of your company
The economic climate is often unpredictable and it is impossible to say when the next recession will occur, but it is always good to prepare for it. A good strategy for companies during these difficult financial times in their industry or sector are those that have a vision beyond short-term struggles.
When you are in the midst of a recession, it can be difficult to estimate the value of your company. Fortunately for entrepreneurs who consider the long-term potential rather than settling for their current situation, today or tomorrow, there are a few useful guidelines that can help them get on the right track to value themselves correctly!
First of all, do not forget cash flow when you determine what exactly constitutes value these days. Why would anyone want an investment without knowing where all its money comes from?
Consider your line of business: Some sectors are more resilient than others during economic downturns and it is important to know which ones you work in so that, when the economy collapses, your company is not as affected.
For example: Manufacturing slows down because fewer people have money and can therefore buy things from factories that produce goods with cheaper materials rather than buying individual components such as inputs (machinery), traveller's cheques, etc. But if we were talking about construction, it would not be a problem since everything needs physical work, whether building walls or paving driveways; there is always someone working! Another example, companies that provide essential goods or services such as healthcare or food are generally less affected by recessions than companies that provide discretionary items such as luxury products or travel services. When valuing your company, it is important to take into account the sectors that tend to better withstand economic storms, so that you can make an accurate assessment of your company's long-term prospects.
More resilient sectors
- Healthcare
- Food
- Construction (needs physical work)
- Essential goods and services
More sensitive sectors
- Discretionary products and services
- Clothing stores
- Luxury products
- Travel services
The value of your company will depend on the performance and stability you can offer to potential investors. The financial data from previous economic downturns is an excellent way to make sure of this, as it allows individuals in a certain industry or sector to know what they can expect when times become difficult again, that is, how much their company is worth today, based on past experiences with revenue levels during the different phases of the cycles.
In order to better understand the context of current trends and reports, such as economic events, gross margins and many others, it is important to take into account the historical information of the country and of the company itself.
Think about current trends: Some emerging trends can present opportunities for your company. Unfortunately, we are living in a time of great uncertainty and many people feel discouraged by their financial situation – but that does not mean you have to be one of them! During recessions, you will always have the possibility of finding accommodation, even if economic difficulties sometimes seem insurmountable.
In fact, research shows that most companies experience growth or stability, depending on the challenges they face, within six months of their creation, provided they pursue the key strategies put in place beforehand. If you think certain future trends could benefit your company, be sure to take them into account in your valuation. For example, during the Covid-19 pandemic, many people cooked at home, which led to an increase in sales for companies that sell cooking supplies or ingredients.
In conclusion
The global economy is going through an unprecedented period due to the COVID-19 pandemic. Although there is still a lot of uncertainty about the duration of the pandemic and the extent of its impact, we know that companies will feel the effects one way or another. In this blog article, we have explored some of the ways a recession can impact a merger and acquisition transaction and we have offered some tips on how to establish the value of your company during this turbulent period. When the economy is down, it is important that companies do not lose hope. There are still opportunities if they take a strategic approach and can find them in merger and acquisition or valuation strategies that will help them continue their success in these difficult times! Discover all your business sale and acquisition opportunities by clicking here!
Frequently asked questions about recession and M&A
How does a recession affect company valuations?
Falling revenues, the rising cost of financing and buyer caution generally pull valuations down — especially in discretionary sectors, which are more exposed than essential ones.
Should you buy or sell a company during a recession?
It depends on your situation and your sector. A recession creates opportunities to acquire at attractive prices for solid players, while sellers benefit from highlighting their stability and long-term potential.
How do you value your company during a downturn?
By starting from cash flow, taking into account the resilience of your sector, the financial data of past cycles and the emerging trends likely to support the business.
Which sectors best withstand a recession?
Essential goods and services — healthcare, food — and some sectors relying on physical work such as construction tend to withstand better than luxury, clothing or travel.
Seize opportunities, even in a recession
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