How Will Higher Rates Affect You?

What this might mean for M & As

The Federal Reserve has started raising U.S. interest rates. If you’re contemplating a business acquisition or sale in the near future, rate hikes and subsequent increases need to factor into your plans. Here are some issues to consider.

Quiet season comes to a close

As many had anticipated, the Fed continues to slowly raise short-term interest rates, although they remain low by historical standards and only minimally affect current economic conditions.

However, any rate hike, whether gradual or not, is almost certain to change the playing field for companies considering a merger or acquisition. In general, rising-rate environments create uncertainty for M&A activity. Some types of deals are more sensitive to rising rates than others. For example, strategic deals are less likely to be affected, but the incidence of financially opportunistic acquisitions may decrease. And while companies that took advantage of a long, low-rate period to stockpile cash can finance their own acquisitions, middle-market buyers that need a bank loan may discover that affordable financing is hard to come by.

In a survey conducted by Intralinks, 55% of investment bankers surveyed said that they were concerned about the impact of rising rates on merger activity. In spite of their concerns though, throughout 2016 optimism remained high, according to a blog post by Intralinks Vice President, Matthew Porzio, who says “federal funds and interest rates…will have to rise quite a bit more before the central bank’s action has any major impact on the broader M&A market.”

Speed and duration

What remains unclear is how sharply, and over how long a time period, the Fed will raise rates. Even though rises in 2016 have been gradual , deal financing could become prohibitively costly and depress M&A activity if the rates take a sharp upward turn. But a slow, measured rise — for example, the one or two modest over the past year — shouldn’t hinder the plans of most buyers. Historically speaking, interest rates will still be relatively low and fixed-income investments will still produce modest returns.

In this uncertain environment, sellers need to decide how quickly they want to move. If, for example, your company is in shape to sell now, it might make sense to hurry up and beat the rate increases. The pool of ready buyers is bigger than it probably will be a year from now and buyers may be willing to expedite a deal before the cost of borrowing increases.

Buyer type matters

The decision to sell immediately or wait may depend on the types of buyers your company hopes to attract. Foreign buyers will probably be less likely to make cross-border acquisitions as rates rise. As the dollar gains strength against rival currencies such as the yen or euro, U.S.-domiciled companies become more expensive for many international buyers.

Private equity buyers might also pull back — or, at the very least, become tougher negotiators. Rising rates generally force private equity sponsors to pay more to finance their acquisitions. It’s possible they’ll pass the cost along by pushing sellers to accept lower offers.

Feeling the impact

It’s been a long time since American businesses have experienced an environment of rising interest rates. Even if the Fed raises rates aggressively, many merger transactions will proceed on schedule. But the higher and faster rates climb, the more business buyers and sellers will feel the impact.

If you have any questions at all regarding this or other merger and acquisition topics and would like to speak with a BMSS professional, please contact the Private Equity and Venture Capital Industry Group at (205) 982-5500 or visit our website at bmss.com.

[1] Porzio, Matthew. “2016 Outlook: How M&A Professionals Feel about the Fed Rate Hike and Other Market Factors.” https://blogs.intralinks.com/2015/12/2016-outlook-ma-professionals-feel-fed-rate-hike-market-factors/. December 21, 2015.

[1] “Press Release.” Board of Governors of the Federal Reserve System. http://www.federalreserve.gov/newsevents/press/monetary/20160921a.htm. September 21, 2016.