It has been two months since the UK government enacted lockdown measures. The country is now transitioning to stage two of the health, social and economic crisis triggered by Covid-19. Stage one involved managing both health and liquidity crises. In the UK, which has the second-largest death toll in the world, this involved the government supporting the National Health Service and care home operators to save lives and providing emergency liquidity to companies and industries to weather the forced economic hibernation. Stage two marks a transition from safeguarding lives to livelihoods, and from liquidity support to solvency support in effort to kickstart the economy.
But the reality will be a brutal Darwinian survival of the fittest. Up to 600,000 British businesses are at risk of insolvency after being hit hard by the economic fallout from the Covid-19 crisis, according to the Centre for Economic and Business Research. One in ten businesses in the UK said there is a “high risk” they will enter into insolvency – as a result of the coronavirus-induced economic downturn. In the first quarter, the UK economy contracted by 2.0%, compared with the previous quarter, according to the Office for National Statistics (ONS). Forecasts for Q2 suggest a mighty 25% GDP collapse. The overall global economic outlook remains intrinsically linked to the development, scaled production and world distribution of a safe and effective vaccine for Covid-19. At the UK national level, recovery will depend on the speed by which demand comes back, and how much demand loss is temporary versus permanent. The answer will diverge by sector.
We expect a wave of restructurings and M&A deals to pick up over the second half of 2020 and into early 2021. Restructurings for viable corporates will include the usual mixture of refinancing, debt forgiveness, debt-for-equity swaps, and fresh capital either in the form of debt or equity. Convincing creditors and shareholders to share some pain is never easy. It is a balancing act which, for many companies vying for survival, will need to manage at the same time as restarting their business, often without clear demand visibility while liabilities will immediately resume (e.g., rent, suppliers, and transitioning off furloughing scheme). These concurrent demands will force companies already struggling before the pandemic – as well as prompt many other companies which were not in difficulty – to consider their strategic ownership options. These kinds of scenarios will drive a new wave of M&A deals, which we categorise into three types.
Three kinds of M&A deals to emerge
First, distressed M&A deals. As discussed in a recent article, resilient SMEs, backed by alternative lenders and private equity (PE) investors with unspent capital, will opportunistically look to acquire companies which have fallen into distress. In many cases, these will be companies which were already teetering on the brink prior to the pandemic which the economic hibernation – even with government support schemes – made untenable.
Second, legacy strategic deals that were unavailable pre-pandemic will emerge. Sectors where we see this happening include leisure and hospitality. For example, low-levered leisure and retail operators opportunistically looking for market share with proven business concepts in London may find traction in securing strategic regional locations from larger PE-owned UK-wide chains, which may be looking into store rationalisation. For independent operators, some strategically attractive locations in the provinces will likely come on the market.
Third, new M&A deals informed by strategic expectations of how the post-pandemic economy will be structured will emerge. For example, deals supported by an acceleration of pre-existing structural demand drivers, such as in e-commerce, which will stimulate investment in logistics operators and demand for automated warehousing. Investment will further be spurred by an expected reorganisation of global supply chains, diversifying away from China, and the re-establishment of more local and regional suppliers. These ‘new normal’ M&A deals will also include tie-ups that were not on radar before and some will be directly in response to perceived different post-pandemic health, social and economic demand drivers. For example, sectors such as domestic manufacturing, telemedicine, online delivery services, workplace digitalisation technology, can all expect to see private capital investment. However, the scale of investment will be tempered until evidence of long-term behavioural changes is clear. Also, longer-term, sectors which support vaccine development, genetic therapies and diagnostics facilities will all also draw greater capital.
Through our network of nationwide offices, BTG Advisory has excellent visibility of emerging sector opportunities and the alternative lender marketplace and has extensive experience in due diligence to support M&A and acquisition financing requests. Please do get in touch to see how we can help.