Although the record-breaking deal activity of 2021 spilled over into 2022, headwinds in the first quarter developed into a significant slowdown during the rest of 2022, with an expectation of continued slowness as we enter 2023
This time last year, the US M&A market continued to be busy with deals in the pipeline from 2021, both deals proceeding to signing, and signed deals in the process of moving to closing.
However, it was evident from early in 2022 that new M&A activity was going to be down significantly from 2021. Cracks were already beginning to show the year before, as the Federal Reserve's language took a more hawkish turn. Talk of inflation being "transitory" shifted. By March, the Fed had made its first interest rate hike in four years. By mid-year, the S&P 500 had entered a bear market.
Since first tightening its monetary policy, the central bank has raised the federal funds target rate by a full 425 basis points (bps). This is the fastest pace of change in modern history. By December 2022, the brakes were being pumped a little less, rounding off the year with a 50 bps increase.
Nevertheless, Fed chair Jerome Powell's language remained resolute at a December 14 press conference announcing the increase: "We have covered a lot of ground, and the full effects of our rapid tightening so far are yet to be felt. Even so, we have more work to do."
Officials forecast up to a total three-quarter point more in interest rate increases this year—the Fed's policy extending longer than many had anticipated. Some are still hopeful that a pivot is not far away. Bond markets have been calling the Fed’s bluff with two-year US Treasury yields peaking in November and dipping below the federal funds rate.
As inflation shows signs of rolling over and economic growth stalls, opinion is divided over what 2023 holds in store—a soft landing or a hard landing. Even if the Fed eventually walks back its recent comments with a course correction, that would suggest that it has overshot the mark.
What is clear is that the first half of 2023 will not carry with it the spillover momentum seen in early 2022, and some investors are bearish on how 2023 will fare. Nevertheless, another camp remains cautiously optimistic. Taken as a whole, 2022 put in a solid performance as compared to historic performance. The real story, however, is that deal activity trended down with each successive quarter as valuations fell, corporate equity issuances became less attractive and debt financing was increasingly costly and less accessible.
As the articles in this report demonstrate, we do not see an early return to a busy M&A market. Opportunistic strategic M&A will dominate until questions regarding a recession are answered and confidence in the stock market returns.
US M&A in review: Momentum can only take you so far
M&A started strong in 2022 with robust deal activity and megadeals dominating the landscape that was largely the result of unprecedented spillover from 2021. But then, things took a turn and deals stalled in the second half of the year, as shifting macro-economic conditions began to take hold.
The US private equity (PE) market in 2022 aligned overall with the broader M&A trend—activity eased off considerably, year-on-year, but remained above historic levels—and like the M&A market at large, it tailed off as the year progressed, but what does this mean for the year ahead?
With some rare exceptions—namely in the oil & gas and energy sectors—deal activity was down in 2022 as a sense of fatigue set in following a prolonged period of high deal activity and as inflation and rising interest rate concerns took center stage.
A flurry of activity early in 2022 sees real estate outperform
Real estate has historically shown resilience during challenging economic periods and is considered a reliable hedge against inflation—but not all assets are created equal, and dealmakers were highly selective in the transactions they pursued in 2022.
There were 2,309 technology M&A transactions in 2022, worth US$546.6 billion—down 11 percent and 32 percent year-on-year, respectively, but still the second-highest total of any year on Mergermarket record measured by either metric, after the outlier year of 2021.
Five of the top-ten largest deals of the year belonged to the sector. The targets were video game developer Activision Blizzard, cloud computing company VMWare, social media giant Twitter, cloud-based design tool business Figma and cloud virtualization business Citrix Systems. These five deals alone were worth US$225 billion.
Much of the continued technology M&A activity is due to private equity (PE) taking full advantage of a buying opportunity. The pandemic supercharged the technology sector, as remote working pushed many businesses into a digital-only mentality. As a result, valuations and M&A (including de-SPAC deals) soared. By 2022, however, this trend had begun to show signs of slowing.
The sector is also particularly sensitive to a higher interest rate environment. Investment in a high-growth technology company can be speculative, with investors often using a discounted rate to calculate the present value of an asset's future cash flows. Higher interest rates increase that discount.
Even in the case of highly cash-generative technology companies with proven earnings margins, the rotation out of cyclical stocks into value stocks brought multiples back down to earth. Tech-focused PE funds such as Vista Equity Partners and Thoma Bravo were especially active in 2022, making the most of trampled equity prices to take large companies private.
Technology can reduce costs for struggling companies in times of economic uncertainty. This should continue to fuel deal activity, particularly as going public will no longer be an option for most businesses until there is an assured improvement in market confidence, and some will likely end up in distress. In the short term, technology companies may be less acquisitive due to ongoing headwinds, including higher interest rates, market uncertainty and lower valuations for their shares. However, PE still has ample dry powder at the ready and a strong appetite for what may soon be viewed as discounted assets. Do not be surprised if technology maintains its leading position in 2023.
Top technology deals 2022
Microsoft's US$75.1 billion acquisition of Activision Blizzard
Broadcom's acquisition of VMWare for US$71.6 billion
Elon Musk's acquisition of Twitter for US$44 billion