Authored by PwC
In our 2024 Canadian M&A outlook, released in December 2023, we talked about the way forward in challenging Canadian market conditions. Six months later, conditions are similar. In the period from January 1 to May 31, 2024, there were 952 deals in Canada with a total value of $72 billion.
Canadian Q1 2024 deal volume was very close to Q4 2023 (592 vs. 582), and although we don’t yet have full Q2 results, we expect Q2 will be similar. If this is the case, this would be four quarters of consistent deal volumes. The combination of the stabilization in deal flow volume and an uptick in leading mergers and acquisitions (M&A) indicators observed by our PwC Canada Deals practice gives us optimism we’re likely to see an acceleration in deal activity in the near future.
Layering onto what we’re seeing internally, there are broader dynamics likely to speed up deal activity. In the next six months, Canadian interest rate cuts have the potential to facilitate more attractive acquisition financing relative to the US market, where rate cuts are expected to lag. In addition, the valuation expectation gap between buyers and sellers has narrowed and, where necessary, can often be bridged by earn-outs or other structured solutions.
All of this may result in an M&A level of activity commensurate with pre-Covid levels. But M&A activity may also experience headwinds. This could be from US election results, especially in relation to investments in Canadian electric vehicle supply chains, and the increase in the capital gains tax in Canada, which may reduce the incentive to sell after an initial transition period that might be characterized by somewhat higher selling activity. There are certain recommendations for how to approach the rest of the year:
- Explore key opportunities for dealmakers
- Explore inflation-resilient opportunities in financial services
- Consider burgeoning areas around renewable energy
- Keep an eye on upcoming green shoots
Looking ahead: Canadian macroeconomic overview
The PwC Canada Economics and Policy practice expects inflation will decline close to an annual rate of 2 percent by the end of 2024, prompting the Bank of Canada to continue to cut interest rates in the second half of the year. The Canadian economy is expected to grow in the second half of 2024 at an annual rate of about 1 percent to 2 percent, driven in part by the start of operation of the Trans Mountain pipeline and interest rate cuts. Overall GDP growth in 2024 is expected to be slightly above 1 percent.
In contrast, the US economy is experiencing fast growth in the second quarter of 2024 of close to 3 percent, but this is expected to slow in the second half of 2024 to an annual rate of 1.5 percent to 2.0 percent. Inflation is expected to decline to an annual rate of about 3 percent by the end of the year. As a result, the US Federal Reserve is expected to apply at most a small cut to its Funds Rate.
This suggests the Canadian dollar will continue to experience weakness throughout 2024, hovering around 70 cents US. The ten-year Canadian Government Bond is expected to decline over the next few quarters on its way to an equilibrium of around 3 percent by the end of 2024.
Looking ahead to 2025 and 2026, we expect the combination of the start of liquified natural gas exports from British Columbia and fruition of investments in the electric vehicle supply chain will support stronger growth in Canada at an annual level of 2 percent to 3 percent. A similar growth rate is expected in the United States.
Here we outline three key areas of opportunity that may be of interest to Canadian dealmakers in the coming months:
1. Explore inflation-resilient opportunities in financial services
Even in the current M&A market, we’re seeing significant, continued M&A activity across the core financial services subsectors, from insurance to asset and wealth management to the periphery of banking and capital markets.
There’s been an increase in corporate-driven M&A across these subsectors, and this is mostly aimed at driving scale and the resulting cost efficiencies, as well as at diversifying revenue and improving declining margins. Regulatory and technological changes are happening as margins are thinning, and this is driving a need to have a bigger platform of scale to allow for reinvestment into key growth areas and core technology.
Financial services businesses, other than lending, have been more resilient to inflation than those in many other sectors. They continue to attract high business valuations with a notable inflow of dollars from acquirers, particularly private equity.
In addition, there’s still noteworthy fragmentation in Canadian financial services, particularly in wealth management and insurance distribution, where we’re seeing an increase in owner/operator exits among relatively large founder-managed businesses.
As they look at margin pressures and reinvestment needs, coupled with continued strong business valuation multiples, many founders of mid-market financial services companies are deciding now is the time to transition.
There will be significant opportunities for buyers as more of these sought-after businesses come to market. However, buyers will need to think about their value creation, corporate growth and diversification strategies, their ability to scale and diversify revenue, and ways to drive revenue and cost synergies through integration to yield the expected benefits.
2. Consider burgeoning areas around renewable energy
Canada has committed to achieving a net-zero emissions electricity grid by 2035, on its path to attaining net-zero emissions across all industries by 2050. As we work to achieve these goals, Canada’s power needs are expected to double, as industrial processes will increasingly be fuelled by clean electricity.
We’re currently at a crossroads for renewables infrastructure and everything adjacent to it, and there will be important opportunities for both infrastructure and private equity investors.
Based on current dynamics and commitments, the supply of opportunities for investment vastly exceeds available Canadian infrastructure dry powder, and this will drive a step change in Canadian infrastructure investing. What were historically thought of as very safe, low-return investments will need to offer premium returns—separate from government incentives—to fill this substantial capital gap. The sheer size of this gap means there will be roles to play for Canadian as well as international investors.
There will also be many adjacent businesses that will prosper in step with Canada’s evolving and expanding power grid. While renewable energy facilities will be owned by infrastructure investors, they’ll likely outsource maintenance, repair and operations services to external providers.
These renewables-adjacent businesses should be of interest to private equity funds focused on business-to-business (B2B) and industrial services, many of whom already have their sights set on scalable opportunities in this space.
3. Keep an eye on upcoming green shoots
We know M&A deal flow was down through 2023, and Canadian deal volume in the first half of 2024 so far could be described as stable at best. But it’s important to remember this data is retrospective, reflecting transactions that came to market in 2023, a tough environment that yielded limited deal flow.
As we look to the coming months, we’re seeing green shoots presenting opportunities for business owners.
A record 26 percent of global dry powder is more than four years old. Private equity funds are under increasing pressure to use it or lose it—in other words, to deploy capital to acquire businesses, supporting demand. At the same time, founder-owned businesses are driving deal activity. We see the appeal of these businesses in deals data, with founder-owned exits representing more than 57 percent of total US deal volume in Q1 2024. This is a value that has been trending upwards since 2015.
International investor interest in Canadian businesses also continues to rise. While, across the board, deal count has declined since Q1 2022, the proportion of inbound deals, that is, Canadian businesses sold to US or other international buyers, has steadily increased over the past two years. More recently, we’ve seen an uptick in inbound deal volume, which increased 12 percent in Q1 2024 compared to Q4 2023, while local and outbound deal count stayed flat. In addition, despite the tough deal environment through 2023, valuation multiples held up well, reflecting outsized buyer interest in high-quality businesses.
Against this backdrop, owners contemplating an exit will be well served by taking transformational measures to strategically increase the value of their business. Now is an excellent time to become prepared for a sale.
Bottom line
To take advantage of emerging opportunities, organizations need to be agile and ready to adapt their dealmaking strategies to shifting economic indicators and dynamic markets. The winners will be those who embrace the flexibility and creativity the current market demands.
Sources include Capital IQ data, PwC Canada analysis and PitchBook, Bain & Company.
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