Return to search

UK mid-market anticipates swell in add-on activity

Private equity firms are holding on to their portfolio companies longer and expecting more bolt-on acquisitions, possibly employing some ‘wishful thinking’, according to a recent survey which also found a great divergence in valuations.

Alex White

UK mid-market private equity firms are preparing for a wave of bolt-on acquisitions while simultaneously delaying the sale of their investments as uncertainty in pricing persists, according to a survey conducted by UK accounting firm BDO Stoy Hayward.

The survey – which explored the views of 100 private equity-backed mid-market firms and 30 private equity investors in the UK – found that 51 percent of private equity-backed companies expect to acquire another business prior to being sold on. This figure rises to 80 percent among companies that did their deals in the last 12 months.

“Those who were most recently invested in were the ones with the largest appetite for bolt-ons,” said Alex White, corporate finance partner at BDO, who led the survey.

The appetite for bolt-on acquisitions was also supported by private equity firms, 97 percent of which expect at least one in four of their portfolio companies to undertake a bolt-on acquisition prior to exit and 70 percent say that they expect to conduct bolt-on acquisitions in at least half of their portfolio companies.

White explains that a possible reason for this is that a lot of mid-market private equity firms – 40 percent to 50 percent, in his estimation – based their original investment cases on making additional acquisitions.

“The need to follow-up on those strategies will provide some underpinning to mid-market mergers and acquisitions activity,” he said.

There may be an element of wishful thinking about the bolt-ons

Alex White

Additionally, he estimates that there are 1,200 mid-market private equity portfolio companies in the UK, which may provide further strength to mid-market M&A activity. However, he believes that the second half of the year will not be as strong for mid-market M&A deals in the UK as was the first half.

White also cautions that “there may be an element of wishful thinking about the bolt-ons” since firms generally perceive that they can buy bolt-on businesses at great prices due to depressed valuations, but there is a great deal of uncertainty in what private equity firms are willing to pay.

The survey found that 96 percent of private equity investors believe that the credit crunch has resulted in the industry reducing the prices it will pay for businesses.

However, despite this figure, private equity firms are divided on how far valuations have fallen: 27 percent of private equity respondents said they had reduced company prices by more than 20 percent while 36 percent said they had reduced prices only marginally by 5 percent to 10 percent.

“There is a split in the market because there is a real difference in the views on pricing and if those views start to converge downwards then delaying a sale could turn out to be a mistake,” White said.

Nevertheless, 71 percent of private equity firms said that they had already delayed commencing a sale process because of the economic conditions and the credit markets. Of that 71 percent, 95 percent said that the delay was more than a year.

The survey results confirm similar findings published earlier this year by Piper Jaffray, a US mid-market investment bank. Their report, published in January, focused on M&A activity in the US, concluded that mid-market M&A activity would remain steady this year and that companies would lengthen their holding periods.

“Many companies and private equity firms have adopted a wait-and-see approach due to the volatility in the market,” Jeff Rosenkranz, managing director and head of M&A at Piper Jaffray, said in a statement.

As White discovered in the BDO survey, uncertainty in pricing may turn out to invalidate the wisdom of this approach for UK private equity firms.

“That may not the appropriate strategy because if that all settles down to a lower price being paid by everyone, delaying a sale could turn out to be a mistake,” White said.