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EY: Middle-market acquisitions to nearly double in next 12 months

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81% of US executives expect M&A market to improve.

Stable markets and a healthy economic outlook are expected to drive disciplined dealmaking over the next year, according to a recent report by professional services firm EY.

Eighty-one percent of US executives expect the deal market to improve in the next 12 months, a jump from 52% a year ago. Additionally, 33% of executives plan to pursue a deal in the next 12 months; although this percentage is down from 41% a year ago, it is up from 29% six months ago, and respondents say the quality and diversity of deals in their pipelines are high.

"We are encouraged by the expected increase in middle-market deals in the US."

"After a slow but steady macroeconomic rebound that saw the US out in front, every indication says the US will be ahead of the curve on dealmaking as well," said Rich Jeanneret, Americas Vice Chair, Transaction Advisory Services, EY. "More than we've seen in recent years, corporates are in the financial and strategic position to do deals. And while they are treating M&A with extreme discipline, we're seeing a renewed willingness to take chances in order to grow and innovate."

Deal pipelines are robust in the US
US deal pipelines are frothier than their global peers, with 41% of US companies saying they have five or more deals in their pipelines versus 23% globally. In addition, 56% of US executives have a positive outlook on the number of acquisition opportunities. Notably, 87% of US executives expect their pipelines to increase or stay stable. Moreover, 50% of those surveyed have a positive outlook on the quality of acquisition opportunities, up from 46% a year ago.

In the US, middle-market acquisitions — particularly those on the smaller end of the range, between $50 million and $250 million — are expected to nearly double in the next 12 months: 52% of US companies expect to pursue deals of this size, versus 31% globally. This suggests that deal volumes overall may start to creep up as an increasing number of midsized transactions are planned.

"We are encouraged by the expected increase in middle-market deals in the US," said Jeanneret. "This is likely a follow-on to some of the larger deals we have seen over the past year. A wave of megadeals like the one we just experienced tends to spur a herd mentality, and more middle-market acquisitions come to fruition."

According to the report, the sectors most likely to see deal activity in the US are automotive and transportation, with 51% of those companies expecting to do a deal; technology companies, 38%; consumer products and retail, 31%; and financial services, 30%. The search for intellectual property and emergent technology may drive much of the activity in these sectors, not just in the tech industry itself.

US companies have sharpened their focus on developed-market businesses. To that end, the report points toward Australia, Brazil, Canada, Germany and the UK as the countries with the greatest likely US investment activity. In addition to Europe and North America, which remain central hubs of cross-border deal flow, Australia is a key destination for cross-border assets; and China and Japan are increasingly looking outbound for assets, which could also trigger US deal investment.

Strong environment for transactions
Executives broadly agree that the macroeconomic environment in the US is supportive for dealmaking. Strikingly, 99% of executives see the economy as stable or improving; 75% see it improving, up from 48% one year ago. Sentiment toward corporate indicators has also dramatically improved: 79% express confidence in corporate earnings, up from 38% a year ago; 66% are confident about credit availability, up from 55% a year ago; 65% expect short-term market stability, from just 21% a year ago; and 55% feel similarly about long-term equity valuations and market performance, compared with 31% a year ago.

Valuations also bode well for transactions this year. More than half (52%) of corporate decision-makers expect asset valuations to remain stable over the next year, up from 42% a year ago. In addition, 47% think the valuation gap is small (less than 10%), with 83% expecting the gap to contract or stay the same over the next 12 months.

Innovation and growth worth the risk
Growth is a priority for 50% of executives, and it is clear that they are taking opportunistic risks. Half of US respondents are devoting a major proportion of their growth capital to acquisitions, compared with less than one-third of global respondents.

Moreover, the transactions coming down the pike this year will likely be strategic, disruptive, and focused on innovation — but the importance of margin growth has not diminished. Nearly half of US respondents, 48% cite that their inorganic growth will take the form of innovative investments that shift the scope of their business, either into another industry or sector; and 35% will pursue deals to gain access to new technology and intellectual property. However, reducing costs and improving margins still play the biggest role in managements' M&A strategies — 47% of respondents cite this as a motivation, and 36% will pursue deals in order to make supply chain improvements.

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