Looking Back to January 2021
Back in early 2021 there were certain signs that the economy was going to change in some way. Many predicted this change would not be positive. January 2021 the world was post pandemic and the U.S. Government continued to pour billions of dollars into the economy by printing more money. Economics 101 would tell us supply and demand concepts would kick in. That is the more supply with no growing demand would make the U.S. dollar weaker. In late 2020 I had an investment banking firm tell me that in the next 18 months, enterprise values would begin a decline. I believed it and communicated that to our clients looking to sell.
Then on top of that oil prices continued to climb.
January 2020 near $25/Bbl
January 2021 near $70/Bbl
January 2022 near $100/Bbl
June 2022 near $103/Bbl
(Ref: Trading Economics WTI)
I have recently had friends tell me that a President does not affect oil prices. I do not believe that, when a President signs an executive order to cancel major oil pipelines and retract permits and leases for drilling on federal lands this restricts oil supply. That sends a very negative picture to oil and gas investors. Again, basic economics 101 kicks in and price of oil starts increasing dramatically ever since those presidential orders take place. Wars in eastern Europe that started one year later are simply an excuse.
Every product finds its way to a truck for transport at some point. Ships and airplanes are also a huge part of transporting products to consumers. With the rise in oil prices, over supply of U.S. dollars we are now all living an increase in pricing at the pump and the grocery store shelf. Inflation has really kicked in.
Valuation of Companies
So, you ask, how does all of this affect the valuation of companies. Well, it’s kind of the perfect storm for decreasing pricing of values.
In the last 10 years the M&A market has seen record prices for sale of businesses, and valuations. There is a normal business cycle that takes place with valuations and that cycle is about every 7-10 years. On top of that the baby boomers have been selling their businesses in record numbers the last few years taking advantage of the high valuations.
In many acquisitions leverage is used to acquire companies. When you have record low interest rates like we have had in the U.S.A. the last 10 years, that allows Buyers to borrow more debt to use as part of the consideration when acquiring a business. This allows the Buyer to afford a higher valuation. Now that interest rates are creeping up, this means that Buyers are not able to borrow as much to get the return they want, so valuations start coming down.
In the last 2-3 years with the pandemic causing shortages, and the fear of interest rates creeping up, we have all witnessed crazy high prices for the following:
- Metal Scrap Prices
There has been a “run on the market” for the items above in 2021. Record levels of high selling prices. I have personal experience with all of the above, either personally or with clients. I have seen the record high price for each of those items, and since March 2022 I have seen each one of those items listed above get soft on pricing. Interest rates keep creeping up as of June 2022, the stock market has pulled back and this is making buyers and investors a bit nervous about the near future. Since spring 2022 I have seen business owners that started discussions and an LOI in 2021, now facing weaking markets and valuations come down.
A word of Wisdom if you want to sell
Get to a sale and closing ASAP. I predict that the value and valuations on the items listed above will continue a decline for the rest of 2022. We may not see another peak for enterprise values for several years. If you are a Buyer, maybe now is the time to put the breaks on and revisit that purchase in spring 2023 when there are going to be some deals to be made at lower prices.