As the calendar turned to 2023, the hope in the M&A world was for a return to normalcy after a tumultuous 2022. As stated in previous issues, the worst bond market on record, the highest inflation rate since the ’70s, the threat of widescale war in Europe, and supply chain issues presented a pessimistic climate, even if deal activity was not bad considering the circumstances. If that were not enough, record profits for energy companies that benefited from higher O&G prices fueled a political assault, and the accelerated push to green and renewable energy left traditional fossil fuel firms under siege.
Optimism for 2023 M&A activity came from record cash levels held by private equity firms and, from the energy perspective, innovative tax incentives in the IRA bill to spur technology and investment in clean energy. The early part of 2023, however, delivered a pullback in energy prices and a new banking crisis. As the saying goes, March came in like a lion with the collapse of three banks, including the second-largest collapse in U.S. history: Silicon Valley Bank (SVB). Further still, several other regional banks came under severe pressure as the damage from a year of rising interest rates was revealed.
Unlike the 2008 financial crisis, in which the assets held by major institutions were virtually wiped out, the assets held by SVB and other struggling institutions are of high quality. The problem is that the spike in interest rates has lowered the market value of bonds purchased beforehand, as they pay a lower interest rate. When such long-term assets are not “matched” properly against short-term liabilities, a bank cannot meet short-term obligations and withdrawals. With the leverage utilized in banking, such losses can wipe out the stockholder equity in the company, as it did with SVB.
The Treasury Department, FDIC, and the Federal Reserve stepped in to guarantee uninsured deposits (those in excess of insurance limits), providing a lifeline to troubled banks by loaning out at face value against the now-discounted price of bonds. The attention of the finance world will turn to the recapitalization of numerous financial institutions, whether through mergers or capital raises. Where that leaves the oil, gas, and chemical world regarding deal activity is tough to say at this point. It stands to reason that financing conditions may tighten considerably.
Private equity, which came into the year with record cash levels, might be more cautious about deploying capital if they believe there will be less borrowing power to augment the purchase. Smaller acquisitions that can be funded with available cash reserves could be the darling of 2023. One interesting side-effect could be slowing the transition to clean and renewable energy. Policymakers have been awakening to the idea that targeted timetables for energy transition are unrealistic, and the banking crisis could also slow the changeover.
A Washington Post article from March noted that the collapse of SVB will have a “chilling” effect on clean and renewable startup companies, which made up a significant share of SVB clients. “The bank had long been a favorite of clean tech companies because of its deep understanding of the marketplace and sophisticated financing tools unique to the industry,” the Post wrote. While private equity investment may slow down, sources for future energy acquisitions may come from larger O&G companies, sitting on cash from record 2023 profits.
The SVB collapse represents a watershed moment in the post-COVID-19 investment world. The Federal Reserve has its hands full as it tries to deal with continued high inflation, a bloated balance sheet countered by the stress that fighting these issues causes to the banking system. Smaller, closely held businesses looking for an exit strategy will need to recognize the change in investment and liquidity climate when conserving or negotiating sales. In this environment,
