It’s been a funny old time for mid-market M&A. Deal volumes have fallen short of the optimistic forecasts made at the start of the year, as margin pressures and the cost of finance remain stubborn.
Political uncertainty, both here and across the pond, has also put a dampener on deal volumes. Monthly domestic and cross-border deals in the UK fell sharply between May and June from 144 to 93 – coinciding with Rishi Sunak’s announcement of a general election.
Against this background, acquirers have become more selective about target businesses. So, what exactly are they looking for?
Attractive targets respond to sector-specific demands and opportunities
Beyond wider themes, acquirers will be looking for businesses that can adapt to sector-specific demands and opportunities.
For example, in recruitment, investors are increasingly interested in agencies specialising in sectors with talent shortages, particularly technology and healthcare. There is also growing attention on transport, logistics, renewables, and education recruitment due to similar workforce challenges.
In hospitality, leisure, and food & drinks, competition for the consumer purse is incredibly tough, so deal growth will likely come from well-run businesses that can swiftly respond to changing consumer preferences.
In industrials and manufacturing, new legislation mandating the use of more recycled materials is driving consolidation. Companies that can efficiently integrate sustainable practices are becoming prime targets for acquirers seeking to meet regulatory requirements.
One concrete example: in May, heavy building material supplier Heidelberg Materials UK acquired B&A Group, a leading construction soil and aggregate recycling company in southwest England.
Indeed, the number of UK circular economy related investments increased by 30% in 2023 to 184 transactions, and this trend looks set to continue for the foreseeable future.
As always, technology and telecoms remain attractive, especially businesses focused on software-as-a-service (SaaS), e-commerce, and digital marketing. As digital transformation continues to dominate the agenda, companies offering core business systems or innovative AI tools are likely to draw significant interest from buyers.
Realistic valuation expectations and a well-planned exit strategy remain highly important
Hilton Smythe’s M&A Analyst, Jared Birkitt, also highlights the importance of realistic valuation expectations and a well-planned exit strategy: “Unrealistic valuations that don’t align with wider market multiple trends will be a major deterrent for acquirers. Pitching a business at the right level is important for attracting serious buyers.
“And a thoughtfully planned exit not only maximises value but also demonstrates a level of foresight and preparedness that acquirers find attractive.
“Clear plans around timing, transition of leadership, and post-sale continuity can make the difference between a business that simply meets criteria and one that truly stands out as an ideal acquisition target.”
And post-sale continuity will, in part, depend on a strong management team. “A strong management team is a major value driver for acquirers,” Jared says, “It is a guarantee of strong institutional and sector knowledge, and continuity for existing employees.”
Cash flow stability and strong balance sheets take centre stage
Strong financial fundamentals have always been important. However, the demand for lower-risk assets has been further strengthened due to challenges like rising operational costs and a dynamic regulatory environment.
Private equity firms, in particular, are increasingly focusing on acquiring top-tier assets within industries and sectors that have the tailwinds to sustain stable cash flow and high exit valuations. These include sectors such as SaaS, cloud computing and pharmaceuticals, which benefit from very “sticky” customer bases and a clear value proposition.
Some recent illustrations of these themes include lower mid-market investor Ethos Partners’ acquisition of UK medical products manufacturer Bray Group, and European private equity firm Astorg’s increased stake in insurance SaaS firm Acturis.
Trade buyers will also want to see a strong track record of generating cash, a good debt-to-equity ratio, manageable liabilities, and a healthy cash reserve. Particular selling points will be contracted revenues from local authority customers – which offers some immunity to wider economic shocks – or other forms of recurring revenue.
Growth in bolt-on/tuck-in deals drives demand for specialisation
Blockbuster M&A deals may grab the headlines, but it is the smaller tuck-in deals that often drive transformational change.
These smaller acquisitions allow firms to bring on niche specialised capabilities that add value to existing product and service portfolios, while delivering lower risk returns.
And in the European market, there is a clear shift towards bolt-on or tuck-in acquisitions, particularly as macroeconomic pressures such as rising operational costs and tighter financing conditions impact deal sizes and structures.
For example, in Q1 2024, 55% of all deals completed by private equity in Europe were bolt-ons – some 560 deals. This represents an all-time high: in 2019, approximately 30% of private equity deals were classified as bolt-ons. This figure rose to over 40% by 2022 and reached around 50% in 2023.
Some recent headlines that demonstrate this theme of specialisation include this one: “Doncaster-based ORB Recruitment acquires specialist construction and civil engineering recruitment firm.” Or this one: “Caledon Group acquires specialist broker”. Or this one: “Nuclear specialist acquired by Aberdeen-based climate tech firm”.
Credible future growth prospects are front-and-centre of acquirers’ decision-making
“Past performance is no guarantee of future performance”, so the adage goes. And acquirers aren’t just investing in targets’ historical success—they’re buying into the potential for future growth.
Acquirers will want to see a documented growth plan demonstrating the viability of the company’s financial forecasts.
Sellers should emphasise growth areas such as portfolio or service expansion, geographic growth, revenue and cost-saving synergies, targeting new customer segments, recruitment, digital marketing potential, franchising or technology licensing opportunities, and relevant industry and macroeconomic trends.
Scalability, or the ability to deliver growth without proportionate increases in CapEx, will also enhance an acquisition’s appeal significantly.
For example, Lightyear, a player in accounts payable automation, recently became an acquisition target after delivering record growth in 2023 and ranking in the top three fastest growing technology companies in Northern Ireland.
These solid growth prospects and scalability explain the robust EBITDA multiples commanded by sectors such as software development, healthcare & pharmaceuticals, IT services, and e-commerce.