The global market for mergers and acquisition, while hotter in 2021 than any year this century, is showing signs of flaring even more in 2022.

A rebound in economic growth, low interest rates and abundant investment capital will push up total deal valuations in the U.S. this year beyond the $2.9 trillion from January until mid-November, corporate dealmakers said in a KPMG survey. Three out of five U.S. CEOs plan M&A this year, EY found in a survey last month of 336 chief executives.

Dealmaking “has heated up to a fever pitch and it feels like it’s going to keep going for the foreseeable future,” Mustafa Hadi, managing director at Berkeley Research Group (BRG), said in an interview.

CFOs can outmaneuver rival companies and negotiate promising deals by following best practices that range from aligning M&A with business strategy and keeping transactions simple, to ensuring a good cultural fit and beginning integration of the acquired company early, deals experts said.

Several forces will likely drive M&A this year.

Sharper CFO attention to environmental, social and governance (ESG) priorities will spur dealmaking, including divestments, as companies seek to reduce their carbon emissions or embark on innovative efforts to curb climate risk, according to Duncan Smithson, senior director for mergers and acquisitions at Willis Towers Watson.

One out of every four U.S. CEOs plan deals this year aimed at improving their sustainability footprint and strengthening their ESG capabilities, EY said.
 

The pandemic set in motion forces that will probably fuel M&A well into this year, Smithson said in an interview. Lockdowns and the tightest labor market in decades have compelled companies to seek acquisitions that will add critical capabilities.

The trend toward hybrid work has increased the speed and scale of digital transformation and intensified competition for specialists in technologies such as cybersecurity and software engineering, Smithson said.

Companies will likely acquire firms that increase their self-sufficiency and reduce the risk of disruption from supply chain bottlenecks, social unrest, cyber attacks and harsh weather, he said.

COVID-19 undercut revenue for thousands of companies in hospitality, entertainment, bricks-and-mortar retail and other customer-facing sectors, creating opportunities for dealmakers to snap up the distressed businesses.

“Coming out of the pandemic, one of the things that’s really important for us is growing very fast and scaling really fast,” according to John Meloun, CFO at Xponential Fitness, a publicly traded boutique fitness company with 10 brands operating 2,100 studios in 10 countries.

“A lot of fitness providers have gone away, so there’s a lot of white space that you can quickly grab by getting studios opened faster,” Meloun said in an interview.

Headwinds to deals

To be sure, several factors could slow dealmaking this year, including inflation, geopolitical tensions, a pullback in central bank stimulus, transaction complexity for high-quality assets and tougher regulation of technology and other sectors, CFOs and M&A experts said.

Prospective buyers may stay on the sidelines as companies targeted for acquisition in technology, energy, financial services, healthcare and other hot sectors demand higher purchase prices, according to CFOs and M&A experts.

“Valuations are just through the roof,” according to Adriana Carpenter, CFO at Emburse, a provider of software for managing expenses and accounts payable. “You’ve got a lot of investor cash going after too few assets.”

At the same time, many CFOs feel pressure to seize on easy money and complete acquisitions before credit gets too tight, Carpenter said in an interview. They need “to be careful not to be caught up in a buying war.”

CFOs and M&A experts say dealmakers should keep eight principles in mind when pursuing transactions this year, including:

1. Align M&A with business strategy

Companies that pursue acquisitions without first syncing their plans with their business strategy embark on a rocky path, according to the CFOs and deal experts. An acquisition may appear attractive in isolation, but not cohere in a way that advances company objectives.

“At the end of the day, we have one thing in mind, and that’s our end customer,”  according to Brian Fitzgerald, CFO at World Insurance Associates, an insurance broker that bought 42 firms in 2020 and 50 last year.

“When we’re out looking for potential targets, it’s always with the mindset of ‘what talent, what resources and what tools do these potential targets offer that we can then use to introduce to our customers and clients?’” he said.

Completing a “holistic” acquisition, Emburse last year purchased Roadmap, a mobile travel platform, to promote sustainability, expand its tech stack and geographical reach and further its mission to “humanize work,” Carpenter said.

Roadmap enables companies to centralize travel bookings and provide employees with features including flight updates, safety reminders, tips about destinations and carbon emission data. Employers can also track spending trends to better calibrate travel policies.

“It was a super successful acquisition,” Carpenter said.

2. Build a comprehensive M&A team

Companies that want to prevail in M&A against intense competition and handle the intricacy of many transactions today need to invest substantially in dealmaking resources and expertise, the CFOs and dealmaking experts said.

“We’ve genuinely reached an inflection point in terms of the complexity and challenge of getting a deal done successfully,” Smithson said. “The companies that are doing this well have invested heavily in building out their own M&A capabilities.”

An M&A team should span the full range of company functions, from product engineering, marketing and sales to tax, accounting and human resources, the CFOs and M&A experts said.

Leadership is essential — from due diligence to integration of the target company —  to avert omissions and misunderstandings, Carpenter said. “What I’ve seen a lot is people talking but nobody’s hearing, and they’re not saying the most important things.”

3. Keep it simple

Transactions can bog down and fail because of unnecessary complexity, the CFOs and M&A experts said.

An overly intricate deal opens the way for disagreement and “drives frustration on both sides of the fence,” Meloun said. “You can negotiate forever and just end up paying a bunch of lawyers.”

Xponential Fitness usually avoids the complications of buying companies that need sign off from a large pool of investors, he said.

“When there’s one or two founders, you can sit at a table on a Saturday, knock through a bunch of terms and everybody feels good about it,” Meloun said. “But when there are 15 people and private equity invested, it gets to a level of complexity that’s frustrating.”

4. Beware of a ‘big bang’

Companies across a broad range of industries can yield the greatest dealmaking returns for shareholders by systematically and regularly acquiring companies rather than by making a “big bang” acquisition or by growing “organically” without M&A, according to McKinsey.

“Carefully choreographing a series of deals around a specific business case or M&A theme — rather than relying on episodic “big bang” transactions — is far more likely than other approaches to lead to stronger performance and less risk,” McKinsey said. “Companies that regularly and systemically pursue moderate-size M&A opportunities deliver better shareholder returns than companies that do not.”

Companies that follow “programmatic” M&A enjoy a 65% chance of outperforming their peers, whereas those that buy a company with a market capitalization that is greater than or equal to 30% of their own market capitalization have just an even chance of success, McKinsey said.

“You have to be more mindful of big acquisitions because you’re deploying a lot of capital and resources immediately, whereas with smaller ones you can moderate your growth and resource commitments,” Meloun said.

5. Solve problems right away

CFOs at acquiring companies eager to complete a deal may decide to postpone addressing problems at a target company that appear to be small and easily solvable after the transaction, including on ESG topics. That’s a mistake, the CFOs and M&A experts said.

“You don’t really understand what the problem is until you try to resolve it during due diligence,” Carpenter said. “You might think that it’s small, but it could explode in your face.”

6. Define early ways to grow revenue

Many M&As flounder when the buyer overestimates its ability to spur revenue growth at the newly acquired company, the CFOs and M&A experts said.

“One of the worst things that I’ve seen is people think that they can turn around revenue lines when actually all they’re really good at is turning around cost loads,” BRG Director Kevin Hagon said.

“As a CFO, you can identify synergies, duplications and you genuinely can save money,” Hagon said in an interview. Boosting revenue is much more difficult, hinging on complex factors such as competitive strength, product development and market fundamentals.

World Insurance avoids considering the purchase of a broker that shows any signs of weak growth in its book of business, Fitzgerald said.

“Most people may be optimistic and think, ‘That’s fine, I can make it grow right away,’” he said. “Others may say, ‘That’s a telltale sign that leadership perhaps is at a point in their careers where they’re not looking to continue the grind — they’re just sitting on their laurels.’”

“You get to the point where you see some of these things and you’re able to walk away very early,” he said. “You don’t even get involved much in due diligence.”

7. Ensure a good cultural fit

Even the most robust profit growth won’t save a merger of two clashing company cultures, the CFOs and M&A experts said.

“What derails most M&A is not paying attention to the cultures of both the target and acquiring company,” Fitzgerald said. “If a company culture is not there, things will start to go sideways.

The founder of a company may initially welcome giving the acquiring company responsibility for back-office operations such as accounting, finance, and human resources, he said. “Most of the sellers say, ‘Yeah, that’s great, take the administration away from me because I just want to go sell and deal with my customers.’”

But some sellers who have built a business over decades may resist any loss of autonomy, according to Fitzgerald and Meloun.

CFOs need to assert control while not quashing the dynamism of the purchased company, Fitzgerald said. “It’s a balancing act.” 

8. Begin integration early

An acquiring company should explore the nuts-and-bolts of integration as part of due diligence, rather than wait until the deal is done, the CFOs and M&A experts said.

“Delaying the steps for integration to later in the merger, when you have more time, just adds more complexity after the closing,” Carpenter said. “Employees should immediately come on to the new corporate entity.”

Worldwide Insurance, as part of its business model, performs due diligence with the intent of fully integrating a target company within 90 days, Fitzgerald said.

“The moment due diligence starts, we ask, ‘Is there anything we see that could affect our integration process?’” he said. “We offer integration the minute we exchange funds.”

Turbulence from the pandemic economy makes this a good time for CFOs at some companies to pursue dealmaking, the M&A experts said.

Xponential Fitness is expanding in a U.S. market in which roughly 20% of boutique fitness companies have failed since the outbreak of COVID-19, Meloun said.

The company, offering guided workouts ranging from yoga and dancing to rowing and boxing, opened 240 U.S. studios in 2020 and more than 230 last year. It bought a specialized fitness company in both 2020 and 2021.

Lockdowns during the past several months have cleared the fitness landscape, providing Xponential “an opportunity to start plugging our brands into retail centers fairly quickly, with more favorable leases compared with pre-pandemic,” Meloun said.