How to Secure Investment in the Wake of COVID-19

Debbie Jackson, Partner in the Corporate team at Walker Morris and UK ‘Hot 100’ lawyer, discusses how COVID-19 has presented opportunities for businesses to secure investment through mergers and acquisitions (M&A) activity from a private equity standpoint. Debbie specialises in all aspects of corporate law and regulation and has particular experience in M&A and private equity.

While businesses are now considering – and potentially implementing – their “exit strategy” in a post-lockdown, post-furlough world, it’s important to note that positive prospects are arising from the current crisis that has had an impact on people and businesses around the globe. Businesses across every industry have had to adapt significantly and – whilst difficult decisions are likely to be taken in the near future – there are also many lessons to be learned and a chance for companies to gain competitive advantage.

During the last major economic crisis, the 2008 financial crash, many firms and their investors remained on the sidelines for too long, meaning chances were missed when all seemed bleak[i]. While, like the recession that followed the crash 12 years ago, COVID-19 has presented unparalleled challenges for most businesses, it has also presented good prospects for securing investment through M&A activity, particularly for the sectors that have seen a surge in use throughout the pandemic like technology and FMCG. This time around, the challenges faced during the crisis must be viewed as hurdles to jump, rather than walls preventing businesses from capitalising on opportunities.

One thing we have seen that has emerged in most of the competitive M&A deals in the last two to three years is that they have been backed by warranty and indemnity insurance. Generally, warranty and indemnity insurance has been for sound businesses, whereas now there is a move towards products that will back distressed businesses – and even insolvent businesses – whereby the insurer will directly give the warranty cover. This is a development which will really help to push a lot of the deals through in the current climate because no business is going to want to put their cash on the line and stand behind warranties when, actually, they’re selling for a lower value or bound to sell in the near future.

COVID-19 and M&A

When we first went into lockdown M&A activity stalled; however, rather than stopping altogether, deals were simply postponed. We are now seeing much more optimism and an appetite to get the economy moving again. Although many struggling businesses have taken advantage of loans and the furlough scheme to streamline costs and continue operations, the real task for businesses – especially those considering M&A – is working capital management. Capital management will help companies get into a position to move forward and survive once things start to return to ‘normal’ and they start repaying the debts they have accrued.

Although M&A activity is down more than 33%[i] this year, to the lowest level since 2014, private equity firms are focusing on the strongest sectors to invest in on the other side of the pandemic.

Why there’s an opportunity

Although M&A activity is down more than 33%[ii] this year, to the lowest level since 2014, private equity firms are focusing on the strongest sectors to invest in on the other side of the pandemic. COVID-19 has presented investment opportunities for many businesses, particularly in the food and tech sectors, and for some businesses, now is the perfect time to accelerate the M&A conversation.

Whilst a lot of active deals were postponed during lockdown, we have also seen several deals secured – and even exchanged and completed – within the food, technology and manufacturing sectors, as the FMCG industry faced unprecedented demand (namely supermarkets and online retailers) and was forced to adapt and streamline its operations. Research carried out by accounting firm PwC recently highlighted the chance for “attractively priced M&A opportunities”[iii] to arise in the food and retail sectors in the next 12 to 18 months, as many challenger brands will simply not be able to continue trading without investment.

The pandemic has also resulted in a change in attitude for many business owners and entrepreneurs as they consider what the ‘new normal’ looks like for them. Having experienced real downtime with their families during the lockdown period, their priorities may have shifted and they may be willing to accept a slightly lower value in order to be able to exit their business earlier and continue to enjoy the other things they have since come to value more. M&A and private equity are both commercially savvy ways for businesses to secure investment in the wake of COVID-19 and those willing to accept a lower offer have high chances of investment from buyers looking to bag a bargain as the crisis abates.

The greatest challenge will undoubtedly be uncertainty over future business performance in light of COVID-19. With valuations becoming more challenging and subjective than ever we may well see a resurgence of deals being structured to bridge valuation expectations, with greater focus on deferring returns through earn-outs, vendor loans notes and equity rollovers by sellers.

How businesses can secure investment in the wake of COVID-19

During the current climate, private equity firms have been seeking out opportunities to invest in businesses when so many others have had their apprehensions. With the ability to take positions in struggling companies – guide portfolio company management and help steadily grow businesses over many years[iv] – private equity firms can add real value, particularly in challenging economic times.

In terms of future investment in business, this is likely to be technology-led to streamline portfolio companies either to a) reduce headcount through automation or b) to get teams and individuals to work smarter. A lot of private equity firms have put their fundraising on hold however, many of them still have money to spend so their focus will be picking the right businesses and the best way to streamline them, presenting a great opportunity for struggling businesses who have already put cost-cutting measures in place.

Having been forced to adapt and streamline their business functions as a result of the COVID-19 crisis, businesses will now have an acute understanding of how they can run most efficiently and cost-effectively. This means that these businesses are in a good position to secure investment from a private equity firm if they can demonstrate their business has scope for commercial growth under a streamlined business model.

Businesses looking to sell to a private equity house as a form of investment – having managed to streamline their business and still deliver on their commercial bottom line whilst demonstrating potential for growth – can benefit from additional support from private equity houses that they may not have had before, for instance; how to implement technology that enables the business to run more efficiently and with fewer overheads. The businesses in this position will not only benefit from all of the expertise of a private equity house when it comes to streamlining the business even further, but the private equity house will have knowledge of how to grow in a financially unstable climate and understand what their commercial targets should be.

Whilst there will undoubtedly be some businesses that create M&A activity because they just can’t survive post-pandemic, further down the line, businesses should have a better idea of what’s required to deliver their core business; what can be removed to save costs, and where technology can streamline their approach. On this basis we can expect positive activity from private equity houses and M&A – firms are currently waiting to see how the current situation unfolds and what businesses will look like once restrictions are properly lifted.

[i] https://www2.deloitte.com/us/en/insights/economy/covid-19/private-equity-m-and-a-deal-activity-post-covid-tax-implications.html

[ii] https://www.lexology.com/library/detail.aspx?g=c3a8a59f-dbf3-4476-8476-7c52e011b356

[iii] https://www.thegrocer.co.uk/mergers-and-acquisitions/coronavirus-will-lead-to-increase-in-opportunistic-manda-predicts-pwc-report/604711.article

[iv] https://www2.deloitte.com/us/en/insights/economy/covid-19/private-equity-m-and-a-deal-activity-post-covid-tax-implications.html87

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