Contributor: Geoffrey Cockrell, Partner at McGuire Woods
Continued Impact of the COVID-19 Pandemic on Healthcare Services Mergers and Acquisitions
In addition to being a challenging year for society, 2020 was a turbulent year for healthcare services mergers and acquisitions (“M&A”). At the outset of the pandemic, transaction activity ground to a halt, only to come roaring back in the latter half of the year. Westcove has identified three key drivers that point towards M&A volumes continuing to remain elevated throughout 2021; a significant deal backlog of unannounced M&A transactions, societal transition to a new normal, and uncertainty continuing to drive entrepreneurs to evaluate strategic alternatives. Geoffrey Cockrell, head of the private equity group at McGuireWoods LLP, also notes that “the pandemic has also proven to be an accelerant of business distress as stronger businesses have had less negative impacts while businesses with underlying problems found those problems magnified with the resulting distress, often pushing owners towards a transaction.”
Significant Deal Backlog
When the repercussions from the pandemic began to grip the U.S. in March of 2020, many transactions that were in process were put on hold as acquirers and investors re-evaluated the risks associated with closing a transaction amidst an uncertain economic backdrop. As revenues and volumes saw substantial declines and unemployment skyrocketed, it became challenging to evaluate the risk in any given transaction fully. A sense of operational certainty and “new” normalcy has returned to most businesses within healthcare services, many of which have been deemed essential. With operational certainty returning, M&A discussions that had been previously put on hold to evaluate the impact of COVID-19 on a given target have been re-ignited. This has created a substantial backlog of deals that would have been announced in 2020. The majority of these delayed transactions due to the pandemic will likely close in 2021 and beyond.
Societal Transition to a New Normal
While the pandemic has undoubtedly created challenges for our society, specific segments of healthcare services such as clinical laboratories, telemedicine, and clinical research businesses have benefited from the pandemic’s continued impact. Whether these benefits are non-recurring in nature or are part of a societal transition to a “new normal” remains to be seen. Macro-economic factors across healthcare services have prompted new questions such as will there continue to be an on-going need for COVID-19 testing at scale for years to come? Or, has the proliferation of telemedicine changed the way that patients seek care permanently?
Across the spectrum of healthcare services, entrepreneurs who own businesses that have undergone substantial growth due to the pandemic are actively evaluating whether or not transacting in this environment can capture additional upside in their businesses that might not have existed otherwise. As a result, this is driving entrepreneurs in the aforementioned sectors and many others to explore potential transactions at an increased rate.
Uncertainty Continuing to Drive Evaluation of Strategic Alternatives
While some healthcare service businesses saw growth due to the pandemic, many others faced tremendous financial and operational challenges. This dynamic has bolstered the rationale for evaluating partnership options in the minds of many business owners. Entrepreneurs are now asking themselves if a partnership with a strategic partner that has the resources and infrastructure to navigate challenging macroeconomic events can mitigate both the financial and operational risk of being solely responsible for the business during times of economic uncertainty. These factors are expected to contribute significantly to healthcare services M&A volume in 2021, specifically in the lower middle market. Cockrell also notes that “in addition to the pandemic creating business uncertainty, it also creates pricing uncertainty as the trailing 12 months of financial performance can be a difficult reference point for valuations.”
As a result of a significant deal backlog, a societal transition to a new normal, and uncertainty continuing to drive entrepreneurs to evaluate strategic alternatives, Westcove expects substantial M&A activity in 2021. Valuations remain in-line with pre-pandemic levels, and in some cases, higher for businesses expected to reap long-term benefits from societal shifts related to the pandemic. While there remains a great deal of uncertainty in the M&A market as a result of the pandemic, this same uncertainty is creating a unique market environment that will continue to propel transaction volumes in 2021 and beyond.