2013 deals? Slow so far

Mergers and acquisitions have been so quiet this year, you’d expect to hear crickets chirping, but all of that might change as we work through the second half of the year.

Compared to 2012, this year has been seemingly dead, but part of the reason for the drop is that “a lot of deals got pulled into 2012,” said Jean Stack, managing director at the investment bank Houlihan Lokey.

Part of that pull was because of concerns about tax changes at the end of 2012 would make 2013 less attractive for dealmaking, so there was pressure to get deals done before the end of 2012. There also were “some concerns as to what the future held with sequestration,” she said.

The M&A landscape also has changed from what it once was; it’s no longer a seller’s market, as sellers’ earnings came down, along with revenue, which lowed prices buyers were willing to pay, she said.

Buyers also are focused internally on their strategy, cutting infrastructure costs and figuring out how to be competitive in this new market environment, Stack said.

“Long-term, we’re not going to see a return to where we were in terms of growth outlook,” Stack said.

But as market conditions have stabilized, the appetite for M&A is returning.

“Now we have a buyer universe that’s ready to start buying,” Stack said. “You’ll start seeing more deals as we move through the back of the year.”

It won’t be like last year, with a flurry of mergers and acquisitions going on, but as we move into the third and fourth quarters, and into fiscal 2014, “you’re going to see a lot more of a typical year in terms of deal flow, but not necessarily in terms of who the typical buyers are,” she said.

“We’re likely to see a lot more of the mid-tier government services companies making acquisitions,” Stack said.

These smaller and mid-tier companies realize that they are challenged, in terms of growth, and that they need to have more depth of capability in order to compete in this market, said Larry Davis, partner at the investment bank Aronson Capital Partners.

“You will also continue to see a lot of divestitures,” Stack said. Among the most notable are Computer Sciences Corp.’s slew of divestitures, and ARINC’s sale of its defense systems engineering and support division to Booz Allen Hamilton last year.

“The combination of divesting of lower growth, non-core assets and business that can create [organizational conflicts of interest] issues going forward both contribute to more divestiture activity, said Don Blair, managing director at the investment bank Raymond James & Associates.

If there’s one silver lining to the lack of M&A deals this year, it’s that companies right now are “sitting on a lot of cash, and it’s likely in the next 18 months that you’ll see a couple of large industry shaping type deals,” Davis said.

As for what these buyers are looking for, there are trends: “Companies that are buying are looking for acquisitions in sectors that are providing continued growth,” Blair said.

While this isn’t necessarily different than what’s already been seen in the market, “one big difference is we’re seeing a lot more smaller deals, and I think that’s because people are willing to take smaller bets in some of these sectors,” he said.

These days, many smaller companies play a big role in the intelligence community, making them attractive acquisition targets, he said.

Buyers also are selective, and they will continue to be that way, Blair said.

Stack agreed: “Buyers are not going to be buying for the sake of buying; they’re focused on their strategic initiatives.”

“They’re going to continue to focus only on putting higher valuations on companies that are in higher growth sectors within the government space,” Blair added.

In other words, “the deals that are getting done now are well positioned in areas that have budget clarity,” Davis said.

One hot area is big data analytics, “which is driving a lot of efficiencies in the intelligence community by eliminating a lot of man hours and doing more with less,” Davis said.

Other areas, not surprisingly, include the health IT. “Some of the areas aren’t that sexy either; they’re just areas that are being funded,” Davis said, usually areas that drive efficiency and effectiveness.

“We’re starting to see the precursor of that type of activity right now. I would expect to see a lot more of that type activity in the second half of the year, and particularly in 2014,” Davis said.