Expert: Interest Rates Concerns Continue in M&A Space

As the economy comes out of the pandemic, questions remain about how quickly or slowly it will rebound.

Law Week Colorado caught up with Julian Izbiky, a partner and mergers and acquisitions attorney at Fortis Law Partners LLC, to get his perspective on how things are shaking out in his practice area.

Izbiky, who has been an attorney for 43 years, said he closed 18 deals within the first six months of 2023. He expects his trend to continue into the second half of the year.

“That’s a lot,” he said. “They ranged in size from small to $33 million [one of the largest deals he’s ever done], so I have no complaints about how busy I was in the first half of 2023.”

Izbiky added deals are getting done at all different sizes, including some large ones, despite some challenges. 

Izbiky explained what’s interesting is he had another 18 deals that “died” during the first half of 2023, adding that’s a very high number. Most of Izbiky’s deals are in Colorado. 

Izbiky noted climbing interest rates in the first half of 2023 didn’t help matters in the M&A space, as a lot of deals are funded by bank loans as well as a seller carrying back a promissory note “and in essence making a loan to the buyer.”

“Higher interest rates mean businesses are more expensive and so people can’t afford as much business as they could afford before,” Izbiky said, who believes that not only impacts Colorado deals, but nationwide.

Izbiky explained if you’re a private equity group for example, he expects they will still make large deals if they find a good one, adding the current conditions don’t suggest they wouldn’t. 

Izbiky added on a related point, there could be a situation where buyers and sellers couldn’t come to an agreement on price, as sellers wanted a price based on their financials, but they wouldn’t really factor in the idea it would cost the buyer more money to buy the business because of higher interest rates. 

Another issue Izbiky saw creating difficulties was in the construction industry. 

“There’s some nervousness around companies that are in the new construction space,” Izbiky said. “They’re not building homes, but they’re providing a good or service to new homes.”

Izbiky said one client, who was interested in a business providing services to multi-family housing, got nervous and walked away from a deal, with concerns about whether the construction of apartments would continue as it has in recent years. 

“It’s not as easy to get a loan for a business in the new construction space,” Izbiky continued, adding questions remain if buyers are going to be there to buy new homes, condos or pay higher rents. 

Earnouts and Earndowns

Izbiky said an earnout is a purchase price contingent on what happens after closing. The price could go up based on the performance of the business after the purchase. Izbiky said he’s seeing a lot of those this year.

An earndown, according to Izbiky, is different.

“Let’s say it’s $10 million with a $1 million promissory note,” he said. “That promissory note is subject to reduction based on what happens over time [with the business].”  

Izbiky said he has seen some of those. 

“That’s how you mitigate risk,” he said. “The seller wants $6 million, [the] buyer is comfortable with $5 million and he’s nervous about $6 million, but if the business performs at a certain level where the numbers stay strong, then the buyer is OK paying $6 million. You do that by having a promissory note for example, for $1 million.”

Izbiky said in the above example, if the business performs well, the seller would get that full amount, but if it doesn’t meet those expectations the seller would get less from the promissory note.

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