Private equity has been a dynamic force within M&A, and its role has expanded dramatically in recent years. By number, private equity accounted for nearly 34% of all global M&A activity and 38% by value.
This surge is mainly due to private equity’s ability to navigate volatile markets, capitalize on emerging sectors, and leverage advanced technologies. With such influence, it’s clear that private equity is reshaping M&A and setting the stage for future trends and strategies that will impact industries across the board.
Understanding the Rise of Private Equity in M&A
This shift to private equity is driven by M&A firms’ substantial resources, commonly called dry powder. For example, in 2022, private equity firms globally held a record $2.3 trillion in dry powder, tripling the amount they had in 2007 during the global financial crisis.
Key Drivers of Private Equity’s Rise in M&A
- Economic Volatility and Market Resets: Private equity firms thrive on market uncertainty, using it as an opportunity to acquire undervalued companies. Recent economic challenges have caused valuations to drop, which makes it an ideal environment for private equity to step in and invest.
- Regulatory Climate and Opportunities: Although private equity’s presence in M&A has grown, it faces increasing scrutiny, particularly in national security and data privacy. In the U.S., the Committee on Foreign Investment (CFIUS) monitors foreign private equity investments in critical areas, requiring a thorough review process that can complicate deal completion.
- Shift Towards Private Financing: Another factor that has fueled private equity’s M&A expansion is the rise of private credit markets. Traditional banks have become more cautious, reducing their exposure to risks. As a result, private equity firms increasingly utilize private credit funds to finance buyouts.
The Competitive Edge of Private Equity in M&A Transactions
Private equity has transformed M&A with its unique approach to deal-making, which often differs from traditional buyers.
Leveraging Private Credit Markets for Competitive Advantage
In recent years, private equity firms have increasingly turned to direct lenders to finance leveraged buyouts. Direct lending played a role in six of the ten largest leveraged buyouts globally in 2022, underscoring the shift from traditional bank financing.
This change enables private equity firms to bypass conventional banks’ often stringent requirements, giving them a competitive edge by speeding up deal execution and allowing for customized financing terms.
Financing Flexibility
One key advantage of private equity in M&A is financing flexibility. With traditional debt markets tightening, especially during rising interest rates, private equity firms can lean on private credit markets to fund acquisitions. In the face of such volatility, private credit markets can offer more favorable terms than banks.
For example, in 2022, high-yield bond issuance dropped by over 67% compared to 2021, reflecting the challenges faced in traditional lending markets. Private equity firms have responded by increasing the amount of equity they inject into deals, allowing them to remain competitive even when debt financing is more challenging to secure.
Enhanced Deal Structure Options
Private equity also has a unique advantage in using different deal structures. They often utilize preferred stock or subordinated debt, which can offer higher returns or more favorable tax treatments.
This strategic flexibility extends beyond financing methods. By utilizing diverse structures, such as minority stakes or joint ventures, private equity can better navigate regulatory environments, mainly when dealing with sensitive sectors like technology and healthcare.
The Future of M&A with Private Equity in the Mix
Private equity is continually evolving, with firms increasingly shaping the future of M&A through innovative strategies and adaptive approaches to changing market conditions. While traditional approaches centered on leveraged buyouts (LBOs) still play a role, private equity now encompasses a broader range of strategies and industries.
Some emerging trends in private equity in M&A are:
- Expanding Sector Focus: Private equity firms are broadening their focus, moving into industries such as technology, healthcare, and green energy. In 2022, private equity investments in the tech sector totaled over $675 billion.
- AI: AI can analyze different scenarios to predict possible financial outcomes, helping firms anticipate market changes. Furthermore, AI tools can sift through massive amounts of data during acquisitions to identify risks or red flags.
- Increased Use of Technology and Data-Driven Insights: Private equity firms are incorporating data analytics and artificial intelligence to optimize decision-making and improve the due diligence process. Advanced analytics enable firms to assess the potential impact of inflation and economic volatility on prospective acquisitions.
- Capitalizing on Market Disruptions: Market disruptions, including rising interest rates and inflation, create opportunities for private equity. Many firms now hold a record amount of dry powder cash reserves earmarked for acquisitions.
- ESG: More investors are now looking to support companies that prioritize sustainability, employee welfare, and strong governance. Private equity firms that demonstrate a commitment to ESG factors are more attractive to these investors.
- Minority Investments: By investing in a minority stake, private equity firms can mitigate risks compared to acquiring full ownership. This is especially appealing in industries that are highly volatile or heavily regulated.
Strategic Adaptations and Long-Term Outlook
Private equity firms adapt to current challenges by diversifying funding sources, utilizing private credit, and increasing equity stakes in deals. This approach enhances their flexibility and enables them to navigate tighter regulatory scrutiny, particularly in the U.S.
Private equity in M&A is expected to remain robust. As private equity continues to evolve, its role in M&A will undoubtedly grow, offering new opportunities and challenges for businesses looking to maximize value.
If you’re exploring potential partnerships or need guidance on the influence of private equity in M&A, contact our team for an expert. Contact us today to start the conversation and explore how private equity can help drive your strategic goals.