Fresh back from Orion’s international conference in New York, Richard Hall takes a quick look at the similarities and differences between the UK and its international competitors, with the benefit of some additional, on-the-ground input from Polestar’s associates.
Overall inflation is high, due to:
To address this, central banks have raised interest rates aggressively (or at least aggressively for those of us that didn’t have mortgages back in the 90s!), but regional differences are evident.
Inflation in the US, whilst at its highest since the 1980s, is heading south from its June 22 peak of 9.1% following 10 Fed rate rises from March 22 to May 23, including four consecutive 75bp rises. Short-term yields have exceeded long-term yields since July 22, implying a cautious view of long-term growth prospects, with the economic outlook impacted by:
Overall, the US economy remains strong and average multiples being paid by US buyers are still very competitive against those in the UK and Europe. Debt providers are showing an increased preference to support recession-resistant assets, with appetite in particular in:
FX rates remain in the US buyers’ favour compared to the five-year average, albeit well off the peaks seen in October 2022.
Polestar sees international buyers, particularly from North America and both trade and financial investors, featuring strongly in processes and supporting valuations, even those in which they are not the ultimately successful bidder.
While market capacity is not under pressure, the higher returns currently achievable for debt may result in an asset reallocation by the sovereign wealth funds, with even a small % adjustment able to dwarf current availability. Albeit, this would be largely focused at the very large end of the market, there may be some trickle through to medium and smaller businesses over time as debt funds seek to support ongoing lending levels.
UK inflation remains stubbornly high, still in double digits, albeit down a little from its original peak. Announced today, May 11 2023, UK interest rates will rise 0.25% to 4.5%. Despite this, some commentators still anticipate a further 0.25%-0.5% rise in the future.
Future expectations on the peak interest rate range from this being the peak to 5%, as inflation returns towards the 2% target, currently expected (guessed?!) to be hit at the end of 2024.
Against this, it would of course be easy to overshoot and apply unnecessary pressure on the economy, with a considerable time lag between rate rises and their effect. For small business growth and general M&A activity, clarity and confidence on the direction of travel for interest rates is important. Certainly, we are in a more stable environment than in H2 2022, when there was a noticeable dip in enquiries, delaying M&A and funding activity. Consequently, deal volumes in Q1 2023 were roughly 30% off from the previous two years, although we are seeing some recovery and expect some pickup over H2 as:
Debt leverage is being impacted by interest rates and concerns over future trajectory, of interest rates on the one hand and business performance on the other. Inflation and the cost-of-living rises are creating challenges in consumer-facing sectors but, conversely, we are seeing strong interest from both debt providers and financial and trade buyers for:
Just as a brief note, European inflation too is falling, albeit still more elevated than the US, largely as a result of the heightened energy costs arising from its dependency on Russia for energy, but still substantially better than the UK. Logistics and Brexit may be a factor for the discrepancy with the UK as the it is still adjusting to the extra frictional costs of additional border controls and documentation requirements. Covid-reduced volumes prevented an immediate calamitous cross-border bottleneck, but as volumes recovered levels, systems and procedures struggled to cope, compounded by global logistics issues felt elsewhere.
Doubtless, over time this aspect of trade will settle down and signs are looking perhaps more hopeful with the less-confrontational stance being adopted towards Europe by Rishi Sunak compared to his predecessor.
In the meantime, indications are that the European Central Bank doesn’t want to be the lender of last resort for the eurozone and is aiming for longer term stability at a peak of 3.5-4.5% well into 2024.
For deals across the European market, there is a balance to be struck, with interest costs having increased, accompanied by a reduction in available leverage, deal volumes for secondary transactions between PE firms have halved year on year.
