Rethinking the Investment Banker’s Role in a 2023 M&A Market

“Slowdown” may be the word of the year when it comes to discussions about middle-market M&A. But for investment banker panelists at the recent ACG Los Angeles State of Investment Banking event, 2023 remains an exciting and active year for dealmaking—so long as the industry considers different approaches to the market than years past.

When contrasted against record-setting M&A levels seen in 2021 and early-2022, 2023’s market uncertainty, expensive capital and valuation declines unsurprisingly continue to generate plenty of concern.

State of Investment Banking panelists Ed Bagdasarian, CEO and managing director of Intrepid Investment Bankers; Lloyd Greif, president and CEO of Greif & Co.; and Nishen Radia, co-head of M&A, senior managing director at B. Riley Securities, all acknowledged this stark market shift. “We have been in a once-in-a-generation M&A environment,” said Radia. “I don’t know if we’re going to replicate what happened in 2021 anytime soon.”

Yet the panelists said the investment banking community remains resoundingly optimistic, especially when 2023 is placed in a broader historical context.

“I’ve ridden through a number of cycles, and this one is no different,” said Greif. “This is actually a piece of cake compared to 9/11, when the markets did shut down and totally froze over like a glacier.”

As 2023 progresses, investment bankers and their sell-side clients have an opportunity to learn from mistakes of the past. Greif pointed to the Dot-Com bust, for instance, in which tech businesses with unproven business plans were too focused on gaining market share. This time around, bankers are focused on financial fundamentals for their clients: steady growth and solid cash flow.

Indeed, this year is an opportunity for buyers, sellers and investment bankers in the middle-market to reframe how they think about M&A.

Previously, cheap capital drove buyers to accept sky-high valuations—and drove investment bankers to aggressively pursue those high-value deals (perhaps too aggressively, noted Bagdasarian). Today, insisting on inflated multiples is likely to only yield disappointment.

Instead, as buyers take a more conservative approach, sellers will need to manage their valuation expectations and consider a wider mix of acquirers. Investment bankers will also need to guide their clients through exploring different deal structures, prioritizing sound financials and reframing their psychological approach to an exit. With a more grounded approach, investment bankers see plenty of success on the horizon.

Shift to Strategics

Investment bankers won’t see a total lapse in M&A activity this year, but panelists expect the industry to experience a shift in who they’re doing business with.

The high cost of capital driven by rising interest rates has created a skittish buy-side environment, particularly for private equity firms. Yet a variety of market conditions has created an opportunistic landscape that may favor corporate acquirers. “We’re seeing strategic buyers today more active than private equity,” noted Bagdasarian. “It’s going to be the year of strategic buyers.”

Several factors will entice buyer demand this year, particularly among strategics.

Market volatility has many corporates on both the buy- and sell-side evaluating operations, and Bagdasarian predicted a “drive towards simplification” that will spur M&A activity. “You have a lot of these large companies that have bought a lot of assets, some of which don’t belong in their corporation,” he said. “You’re going to see a lot of shedding of assets and shoring-up of balance sheets.”

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Greif agreed, urging corporates to look inward before they pursue a deal: “You can look at what you’ve got, and either optimize it or shed it.”

This is the best market to acquire businesses right now, because there are going to be some wounded companies.

Ed Bagdasarian

Intrepid Investment Bankers

For those strategics well-positioned to withstand any bumps in the road, today’s environment is primed for acquisitions of assets that can be integrated into their business and ramp up their competitive edge. “This is the best market to acquire businesses right now, because there are going to be some wounded companies,” said Bagdasarian. “And if you’re a company with good liquidity and a strong balance sheet, you have to go aggressively and pick up some of the hurt competitors that you have. We’re seeing a boom in acquisition activity and search activity.” 

Changing Seller Psychology

Another driver creating a promising acquisition opportunity for buyers and driving interest among sellers is the array of generational factors at-play.

Much has been said about the generation of Baby Boomer business owners eager to exit rather than withstand another cycle—and willing to accept a lower valuation than they might have gotten in 2021 as a result.

But Radia also highlighted how a younger generation of business owners, particularly tech entrepreneurs, is shifting the psychology of the exit process—a trend that leaves opportunity for PE firms struggling with expensive capital. “They’re looking at exiting as a journey,” he said of younger entrepreneurs. Rather than defaulting to a 100% sale, they’re considering other deal structures, including a minority or majority sale to PE firms, and planning to sell more of their business down the line. “They look at it as a multiple-step process to getting liquidity and exiting,” continued Radia. “That’s a very different psychology…it’s just a different way of thinking.”

Valuations are another area of changing psychology among sellers. The panelists were split on whether or not a gap exists between buyer and seller valuation expectations: while Greif argued that businesses that are “diamonds in the rough” will obtain the valuations they seek (particularly for corporate buyers well-positioned to pay), Bagdasarian posited that there are indeed gaps in valuation expectations, a scenario that requires investment bankers to explore various deal structures to fill those gaps.

“Even if you’re a strongly-growing business, you’re not going to get exactly the same multiples, because the buyers are more cautious,” said Bagdasarian. Minority acquisitions may be a more attractive option for sellers who aren’t willing to divest 100% ownership in a business for a lower valuation, but still require liquidity.

Related content: 2023 Investment Bankers to Watch

Regardless of how a deal is structured, sell-side businesses and their investment banking partners will need to adjust their mindsets when it comes to valuations. “Valuation is not the only reason to transact,” said Radia, who encouraged the industry to take a step back from the culture of using high valuations as a source of bragging rights, and instead pursue the right business strategy for the client and their goals. 

Guiding Clients Through the Changes

Investment bankers may agree there is still plenty of M&A opportunity in 2023, but sellers face a very different landscape than they saw in recent years. Panelists pointed to the role of the investment banker to support their clients as they navigate their options.

As an investment banker, you have to not just execute a trade. If you’re dealing with the middle market, you have to be part consultant and part dealmaker.

Lloyd Greif

Greif & Co.

According to Bagdasarian, sellers aren’t the only ones who have been caught up in the recent valuation frenzy. Some investment bankers have aggressively pushed clients to market with high valuations, a tactic that will increasingly lead to few or no bidders, and inevitable disappointment for the seller. Today, bankers should instead urge their clients to focus on sound financials, and approach a deal not to obtain the largest multiple, but to address the unique needs of a sell-side company.

“As an investment banker, you have to not just execute a trade,” noted Greif. “If you’re dealing with the middle market, you have to be part consultant and part dealmaker.” Helping business owners understand where they strategically fit in the M&A landscape, and where the greatest opportunities are, is key.

That could mean accepting a lower-than-expected valuation if an owner is desperate to exit. Or it could entail a partial sale to shore-up capital while still retaining a role in the company, providing an owner with more time to prepare another deal or exit later on.

Or it might involve holding off on a transaction altogether: while the M&A landscape is full of opportunity, for some owners, the time simply isn’t right.

“What we tell our clients is, if you’re going to wait—which, for the most part, we’ve recommended—use that time while you’re waiting wisely,” said Radia. “Invest in your management team, and don’t sit on the weaknesses you had when you were rushing to market. Hire another CFO, help scale operations, look at add-on acquisitions. You can create value in different ways.”

Carolyn Vallejo is ACG’s digital editor, based in Los Angeles.