Citizens’ 2023 M&A Outlook revealed both upbeat expectations for company performance and high desire for growth in a low-growth world in the coming year. The annual survey of 400 leaders at U.S. middle-market companies and private equity firms also indicated that buyer and seller sentiment about mergers and acquisitions will return to pre-pandemic norms as the macroeconomic backdrop stabilizes.

“Companies exited the pandemic era with a newfound resilience and, in many cases, better finances and more experienced management,” Jason Wallace, head of Citizens M&A Advisory, said. “When the macro conditions normalize, we see a pipeline of buyers and sellers eager to return to the market.”

After a year of significant price adjustments, more than 80% of U.S. companies and private equity (PE) firms believe that company valuations in 2023 will be stable or higher than in 2022, the survey found. Notably, companies and PE firms shared nearly identical views of valuations for the year ahead.

Macroeconomic uncertainty was a dominant theme of late 2022, but most middle-market companies and PE firms expect conditions to improve in 2023.

Companies did acknowledge the headwinds, however. Two-thirds of middle-market companies said inflation is making business operations more difficult, while nearly half cited the challenge of rising rates. Labor market challenges, geopolitical instability and commodity prices were also high on the list of concerns. Still, there’s evidence that companies have adapted well to the environment. Eighty-four percent said they have been able to pass some, or all, of their cost increases on to customers, a contributing factor for their confidence in the year to come.

M&A as a Growth Driver

Most middle-market companies said they expected slower economic growth in the year ahead, but they remain optimistic about their own performance. As economic challenges persist, management teams said they are increasingly looking to M&A as the primary growth driver for their companies as opposed to organic growth.

Among middle-market company buyers, growth is by far the top reason for acquiring a company. Sixty-two percent of buyers named growth as their M&A motivation, compared with 48% last year. Sellers also pointed to growth as the main motivation, with 35% saying they would seek a sale because of strategic growth opportunities, though that result ticked down from 40% in last year’s survey. In 2023, the leading motivation bringing sellers to market will be the lack of a succession plan and need for new leadership.

In terms of sector valuations, outlooks ranged considerably for 2023, though respondents said they anticipate higher valuations across every sector but transportation and logistics. Aerospace/defense and business services garnered the most bullish valuation forecasts. Healthcare was also close to neutral, a marked change from last year when it was the sector with the most bullish valuation outlook.

High-Performing Sellers in Driver’s Seat

Though valuations have retreated from 2021 peaks, middle-market companies and PE firms agreed that the market environment still slightly favors sellers. With buyers on the lookout for growth, high-performing sellers could continue to have an advantage.

In terms of deal flow expectations, about 20% of PE firms said they anticipate lower deal volumes than in 2022, but 34% said they expect increased volumes. Of those PE firms who anticipate increased deal flow, half cited an increase in PE-backed assets coming to market. A third also pointed to improving economic conditions and lower interest rates as possible tailwinds for deal flow.

More buyers and sellers showed some uncertainty about the likelihood of getting a deal done this year. However, among those sellers who indicated they were somewhat or very confident, there was a notable shift toward “very confident” – 28% of sellers compared to 15% last year.

Indeed, the pipeline of sellers looks to be well-stocked. Forty percent of middle-market companies indicated they were currently involved in selling activity or open to considering it in 2023, identical to last year’s survey and up from the pandemic low of 33% of companies. Meanwhile, 53% of companies said they are current or potential buyers, up from 45% last year.

Another shift in this year’s responses was higher demand for advisor expertise on deals. There was a significant uptick among both sellers and buyers who look to an M&A advisor as an expert sounding board. As in prior years, the most-cited reason for using an M&A advisor was to help get the best deal price.

The survey was conducted among U.S.-based middle-market businesses ($50 million to $1 billion in revenue), as well as PE firms that are active in the acquisition and sale of U.S.-based companies in the same revenue range. Business executives at 276 middle-market firms and 125 PE firms who are directly involved in decision-making related to mergers and acquisitions completed a phone or web-based survey between November and December 2022.