PUL$E: 🏢 Get Ready for a Distress Cycle: Troubled Assets Soar to $64B, $155B More on the Horizon

Happy Monday!

Today's issues is designed to give an overview of most relevant parts of the market that affect us as entrepreneurs.

Rember that the game of business is infinite.

People will come and go from the game, but there are no such things as winners or losers.

The only rule to the game is to keep the game going.

And we believe that he who has the most data and insight to see the changing landscape will be rewarded handsomely.

Economy

Is inflation under control? 

June saw a decrease in inflation, with a drop from 4% to 3% compared to the previous year's peak of 9.1% in June '22. However, core inflation remains high at 4.8%, which is more than double the Federal Reserve's target of 2%. The Fed's preferred inflation indicator, which excludes housing and energy costs, stayed relatively the same as in May. The main factor leading to this decline is the significant increase in energy prices compared to a year ago. It seems that the Fed still has more work to do in tackling inflation in order to achieve that 2% target. We fully anticipate that rates will go higher. Therefore all underwriting should anticipate a higher cost of capital in the next year.

Lower Middle Market (SME) Business Acqusitions

According to the Small Business Administration (SBA), the number of small businesses acquired in 2023 has increased by 32% compared to the previous year. This increase can be attributed to the number of baby boomers who are retiring and looking to sell their businesses to the next generation. The trend is expected to continue for the next few years, with the SBA predicting a 25% increase in small business acquisitions in 2024.

The most significant increase in small business acquisitions is happening in the technology industry. The SBA reports that over 60% of the small businesses that were acquired in 2023 were technology-based. This is primarily due to the increasing demand for technology products and services in the business world. As more businesses look to digitize their operations, the demand for technology-based companies is only set to increase.

Another trend that has emerged in recent years is the rise of private equity firms acquiring small businesses. Private equity firms use capital from high-net-worth individuals and institutional investors to purchase companies and increase their value before selling them. According to the SBA, private equity firms acquired over 30% of the small businesses purchased in 2023. This is a significant increase from previous years and highlights the growing appetite for private equity investments in small businesses.

The SBA reports that the top industries for small business acquisitions in 2023 were healthcare, real estate, and financial services. These industries are often seen as stable and profitable, making them attractive to both investors and entrepreneurs looking to expand their businesses. However, it's worth noting that these industries have also been heavily impacted by the COVID-19 pandemic, which may affect the number of acquisitions in the coming years.

Middle Market Mergers & Acquisitions

The Growth in Cross-Border M&A

Cross-border M&A has been on the rise for years, driven by the desire for companies to expand operations into new markets. In 2023, we're seeing continued growth in cross-border M&A with major deals happening across different continents. For example, we've seen an increase in M&A activity involving Chinese companies in Latin America. Business owners looking to expand their reach through M&A would do well to consider cross-border options.

A Focus on ESG Issues

Environmental, social, and governance (ESG) issues have become increasingly important for companies in recent years, and this trend has extended to M&A. Buyers are now more likely to consider ESG factors when evaluating a potential acquisition. This means that companies with strong ESG performance may have an advantage when it comes to attracting buyers. Business owners looking to sell their companies should consider taking steps to improve their ESG profile.

The Rise of SPACs

Special purpose acquisition companies (SPACs) have been around for years, but they've really taken off in 2023. SPACs are shell companies that raise funds through an initial public offering (IPO) with the intention of acquiring another company. They've become a popular way for companies to go public, with many high-profile deals happening through SPAC mergers. Business owners exploring M&A options should keep an eye on SPACs as a potential exit strategy.

Tech Dominates M&A

Technology companies continue to dominate when it comes to M&A activity. In 2023, we're seeing major deals happening between tech giants, as well as between established companies and tech startups. This trend is likely to continue as technology continues to be an important driver of business growth and innovation. Business owners looking to enter the tech space or expand their tech offerings should consider M&A as a means of achieving their goals.

The Impact of COVID-19

Finally, it's impossible to talk about the state of M&A in 2023 without acknowledging the ongoing impact of COVID-19. The pandemic has fundamentally changed the way we do business and has had a major impact on M&A activity. We've seen some sectors, such as healthcare and tech, experience increased M&A interest, while others, such as travel and hospitality, have seen a decline. Business owners looking to buy or sell companies should carefully consider the impact of COVID-19 on their industry and their target companies.

Commercial Real Estate

Get Ready for a Distress Cycle: Troubled Assets Soar to $64B, $155B More on the Horizon

Distressed assets in the real estate sector are on the rise, with troubled assets increasing by 10% to around $64 billion in the first quarter. A staggering $155 billion of potentially troubled loans are expected to follow, according to MSCI Real Assets.

The commercial real estate sector is feeling the impact of higher borrowing costs, which is causing prices to decline and pushing some investors towards default. This distress is a result of properties needing to be refinanced at a time when banks are facing scrutiny by regulators, offering lower leverage loans, and requiring depository relationships.

MSCI Real Assets researchers warn that if this potential distress turns into a full-fledged crisis, we will see a surge in distressed asset sales and plummeting prices.

According to MSCI's recent report, retail properties, including malls, are experiencing the most distress, with approximately $23 billion of distressed assets, followed by office properties at $18 billion. The office sector faces a larger wave of maturing debt, accounting for $43 billion of the potential distress, the highest among all sectors.

Even the multifamily sector is not immune to distress. The delinquency rates for multifamily loans in commercial mortgage-backed securities (CMBS) rose to 3% by the end of the first quarter.

Despite the challenges, there will be opportunities for savvy investors. Those ready to capitalize on potential disasters will have plenty of options to choose from soon.

In Case You Missed It

God Bless. Make it a great week!

Best,

Samson 

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