When examining the respective M&A markets of the USA and the UK, perhaps the most striking thing to note is the many similarities the two currently share. Both are, of course, still adjusting to the impact of the COVID-19 pandemic, as well as the political upheavals they have seen over recent years, such as the UK’s Brexit vote and the Trump Presidency.
Similar deal trends are emerging in both economies in the wake of these events, as growth-seeking companies and private equity houses use M&A to tap into the latest emerging trends and rise to the challenges presented by digitisation and automation to supply chain optimisation.
In both countries, dealmakers are also having to contend with tighter regulation, which will create barriers to dealmaking during both the implementation and adjustment stages.
However, there are also significant differences in the types of opportunities that dealmakers can expect to find in both countries. While such factors may not be exclusive to one country or another, they are perhaps more prevalent in either the US or the UK.
When comparing the M&A markets of the UK and the US, an obvious place to start is with the kinds of valuations that business sales typically generate in each country. Recent figures show that quoted companies in the US are historically valued at EBITDA multiples of around 30-40x, compared to EBITDA multiples of approximately 13 - 16x in the UK, once inflation and cyclical adjustments have been made (this is known as the CAPE ratio).
Large private companies also tend to be valued higher in the US, though not to the same degree as public companies. Comparing multiples across all company sales, however, becomes somewhat more difficult than with quoted firms. According to the latest figures on EBITDA multiples in the DealStats Value Index, the median EBITDA multiple for US business sales currently stands at around 4.5x. Clearly, this multiple is far lower than the average generated during quoted company acquisitions, reflecting the fact that the overwhelming majority of acquired businesses tracked in the DealStats index generate profits of under $1 million.
Producing a reliable comparison of this figure with business sale multiples in the UK is complex, as small business owners in the UK tend to keep this sort of information confidential. However, in our view, the UK’s small business market is generating broadly similar deal values to its transatlantic counterpart, with EBITDA multiples generally in the 4x to 5x range.
Of course, in both the US and the UK, these average and median figures do not tell the whole story and there is a wide range in EBITDA multiples achieved across different industries and different sizes of companies.
To take one particular sub-sector as an example, multiples in sales of software applications providers indicate the similar levels of valuations achieved in both the US and the UK, as well as how the two markets often generate higher deal values than markets such as Europe.
According to figures from silverpeak.com, US SaaS (Software-as-a-Service) companies generate median multiples of 29x, while vertical software providers generate multiples of 25.7x. In the UK, the mean multiple in sales of software application providers is 27.4x. In Europe, meanwhile, this figure drops to under 20x.
However, caution is required when comparing EBITDA multiples, as there are a huge array of factors that influence them. Aside from sector and company size, other influences can include revenue size, recent revenue growth, staff turnover, profit margins, intellectual property, growth opportunities and the strength of the management team, among other factors.
Finally, when it comes to examining valuations in the UK and US markets, caution should be exercised when comparing UK EBITDA multiples and US multiples based on Sellers Discretionary Earnings (SDE). This is because SDE - often used for companies with revenue of less than $1.5 million - includes the salaries of owners or directors. EBITDA removes this figure to give a better picture of how much profits would be made, after the operator’s or manager’s costs are deducted. Obviously SDE multiples will therefore be lower than EBITDA multiples.
A higher rate of deals go through to completion in the US compared to the UK and one of the main factors behind this is the readier availability of lender finance to buyers stateside.
In the UK, buyers looking to acquire small to medium sized businesses may struggle to obtain bank finance to fund their acquisitions. Commercial lenders in the UK market will typically only finance acquisitions if some form of asset backing can be secured, rather than simply relying on being presented with a set of accounts and a buyer’s business plan.
In the US, meanwhile, buyers can tap into the popular and effective US Small Business Administration (SBA) loan programme, which provides businesses with up to $5.5 million (£4.5 million) in funding via a guaranteed scheme to local banks.
Overall, the US has a far friendlier lending environment for business buyers than the UK, something that extends not just to the accessibility of loans, but also to factors including term length and average interest rates. In the UK, buyers who receive lender finance for an acquisition will typically be looking at terms of 5 to 7 years, with an interest rate of around 12 per cent.
In the US on the other hand, if a buyer were to take out an SBA 7(a) loan (its most common and popular type), maximum term lengths are dependent on what the proceeds are used for. For real estate acquisitions, the term is 25 years; for equipment, ten years; for working capital or inventory loans, ten years.
Interest rates also vary according to factors such as loan size, whether they are fixed or variable and the loan’s term length. However, buyers can, again, typically expect better interest rates than they might get in the UK, with current rates ranging from 5.75 per cent to 11.5 per cent.
Asset sale vs Share/stock sale
Another key feature of the two M&A markets is the type of sales favoured by sellers when disposing of a business. In the UK, sellers will virtually always opt to proceed with a share sale rather than an asset sale.
The key reason for this is that share sales come with significant tax advantages. With a share sale, sellers can qualify for Business Asset Disposal Relief (formerly known as Entrepreneurs’ Relief), which can enable them to reduce the Capital Gains Tax they pay on the disposal from the standard rate of 20 per cent to 10 per cent, up to a lifetime limit of £1 million.
In the US, stock (share) sales are also the dominant preference, however, the tax implications are considerably more complex. Long term gains (of a year or more) in a share or asset sale can be expected to attract capital gains taxes of up to 15 per cent. However, this will have implications for a seller’s personal taxes at both a state and federal level.
Warranties for private business sales represent one of the core similarities between the M&A markets in the US and UK. In both, liability for warranty claims will typically be capped at consideration for breaches of fundamental warranties, while the cap for breach of business warranties is generally less than 20 per cent.
In both the US and UK, buyers will sometimes use warranty and indemnity insurance to afford themselves extra protection. However, in the US it is often the case that sellers will place 20 per cent of the equity consideration of the sale into an escrow account, which they can then draw on in the event of a claim from the buyer.
What is the outlook across the two markets?
In both markets, 2021 was a bumper year for M&A, as dealmaking demand that had built up during the COVID-19 pandemic in 2020 was unleashed. As a result, it’s unsurprising that 2022 has so far seen something of a pull back, with dealmakers facing up to headwinds including a more unsettled macro environment, ongoing supply chain issues and geopolitical uncertainty coming from both the war in Ukraine and China.
Across both the US and the UK, 2022 should see numerous companies seeking to shore up their balance sheets and operations by both disposing of non-core divisions and acquiring competitors in their core spaces. Other firms, meanwhile, will seek to reduce risk by absorbing vertical partners.
In the UK, the economy on the whole is experiencing one of the largest cost-of-living squeezes on record. People and businesses are facing up to soaring inflation and rapid increases in commodity prices, with petrol having recently hit £2.50 per litre in London, more than double the price in New York.
Against this backdrop, businesses will find generating organic growth extremely difficult and may have to turn to acquisitions in order to grow, providing they have the capital. There will certainly be no shortage of distressed opportunities, with insolvencies in the UK rising at a remarkable pace.
However, smaller companies may struggle to make acquisitions due to the increasing difficulty of accessing funding. Larger buyers (i.e., those with profits of over £1 million), on the other hand, will find it easier to access the funding they need to match their dealmaking appetite, while other trade buyers, institutional buyers and private equity firms will also be looking to make acquisitions.
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