November showed signs of a strengthening M&A environment as announced deals in the government services sector totaled eight for the month, which is 60% higher than October and in line with November of last year. The market has continued to see deal volume pick up in the first part of December. Over the last 30 days, ACP has closed two transactions:
ACP Recent Deals:
As shown in the chart on the right, government services deal volume in Q4 is expected to account for more than a third of the government services deals in 2013. Part of the reason for the increased deal volume is buyers’ enhanced visibility into target’s revenue outlook following the implementation of sequestration.
In addition, banks have showed a continued willingness to lend to private buyers, at historically low rates, and at higher leverage multiples (measured by Net Debt/EBITDA on a proforma basis). The market has seen a pick-up in private equity and private equity-backed companies’ share of the deal volume due in large part to this credit environment. Credit markets have allowed P/E buyers to still pay competitive valuations and complete deals. Private equity firms typically also have a higher tolerance to manage risk through more creative transaction structures.
Going forward, the key players in a transaction (lender/capital provider, buyer and seller) will soon have over a year’s worth of recent history that will help them better understand the real risks of a target’s cash flow stream in the post-sequestration environment. Lenders and buyers closely monitored the effects of sequestration throughout the year and the government shutdown in October. These carefully monitored data points are now breeding confidence into buyers’ assumptions and ability to understand the risks of an acquisition. Furthermore, sellers now better understand the likelihood of cuts to their programs and their overall resiliency after experiencing the events of this past year. Key players as well as other market participants have had the opportunity to replace theoretical beliefs with empirical facts and many are coming to a more general sentiment and understanding regarding the budgetary environment.
Looking ahead to 2014, ACP expects increased deal volume due to many of the aforementioned factors. Continued stagnancy in the market and budget declines provide a necessity for many government contractors of varying sizes to find ways to bulk up and develop greater economies of scale through acquisition. In this environment, sellers should carefully consider their timing when considering an M&A process, as company specific attributes (e.g., backlog, recompete timing, etc.) should once again outweigh broader headwinds.