How Is the M&A Market Reacting to Current Headwinds?

The global M&A market is not living up to high expectations so far in 2025, with moderated activity likely to persist in the near term before possible improvement later in the year. The heightened macro uncertainty that has impeded this year’s deal flow was only partially resolved by the latest round of tariff news. The M&A slowdown could linger into mid-2025 as buyers, sellers, and management teams evaluate the impact of tariff hikes and other U.S. policy measures. In the near term, an active M&A market is continuing for assets in sectors insulated from the current uncertainty. We see potential for M&A to rebound in the latter part of 2025, pending more visibility on global tariff developments and the macroeconomic trajectory. Before then, the 90-day tariff “pause” (ex-China) could provide a catalyst for more M&A market activity in Q2 as sellers and buyers have more confidence in a constructive global trade paradigm.

“ In Q1, an M&A market that was ready to take off was instead muffled by the growing trade policy uncertainty. It’s now going to take some time to see how evolving trade policy events fully impact the market.”

Mike Lindemann
Co-Head of Global M&A

Unfavorable Economic and Policy Developments

M&A market participants are now contending with reduced economic forecasts due to planned and implemented economic policies. In addition to upheaval caused by the prospect of large-scale tariffs, government efficiency initiatives in the U.S. could result in cuts to federal spending and staffing levels in various sectors. As a result, positive sentiment has dissipated since the start of the year, when we expected a strong M&A market (as detailed here) driven by supportive lending markets, financial sponsors under pressure to generate liquidity and deploy dry powder, and well capitalized corporate buyers. The combination of policy actions and macro uncertainty in the initial months of the Trump administration has delayed the timing of some potential transactions, factoring into global deal counts declining an estimated 10% in Q1 2025. On a more positive note, global M&A deal value rose 9% in Q1, fueled by a 34-month high in March. Underlying fundamentals remain positive, indicating the potential for an acceleration in M&A activity as uncertainty diminishes.

Among macro factors hurting overall M&A activity:

• Peak Economic Uncertainty: M&A markets often weaken during periods of low visibility, which translates to risk aversion among buyers. Across Q1 2025, the average value for the U.S. Economic Policy Uncertainty Index was the second-highest in 40 years of data (topped only during the early stages of COVID). Uncertainty index levels remained unusually high in the early days of Q2, reflecting continued instability after recent tariff news. With shifts in U.S. trade policy affecting companies across the world, a global economic policy uncertainty index rose to a record level (in nearly 30 years of data) in early 2025.
  
  

  U.S. Economic Policy Uncertainty Index

  
  

  ^{Source: Baker, Bloom, and Davis via FRED.
  Quarterly data points are based on averages of daily index values from Q1 1985 through Q1 2025.
  Index measures usage of terms related to economic and policy uncertainty in leading news publications.}

• Tariffs: The ongoing series of tariff pronouncements has been top of mind for management teams and investors in many sectors. We focus here on the implications of tariffs for M&A, including:
  • Heightened risk aversion and due diligence from potential buyers and lenders evaluating target companies with supply chains and end markets impacted by widespread tariffs. Announced policies (excluding those put on pause on April 9) could increase the average tariff on goods imported to the U.S. from 2-3% of costs in recent years (including during the first Trump presidency) to a far higher level in view of the baseline 10% tariff hikes that remain in place as well as the 100%+ tariffs now levied on most imports from China.
  • Diversion of management focus away from potential transaction activity and toward preparation for a range of possible tariff scenarios due to the on-again, off-again nature of trade policy announcements.
• Potential for a Weaker Economic Outlook: Recently stalled M&A deals reflect concerns among market participants about the known and unknown effects of U.S. policies on economic results. Based on the projected impact of tariffs, macro research firm Strategas (part of Baird since 2018) adjusted its estimate for the probability of a U.S. recession during 2025 from 15% to 45%. In addition to the direct impact in several sectors, economic conditions could weaken to the extent that policy moves reduce confidence among U.S. consumers (already at a near-record low in April) and corporate leadership teams.

While the macro landscape could limit overall deal flow in Q2, many deals will still get done.

• Best-in-class assets featuring healthy secular growth prospects should continue to experience strong buyer demand at premium multiples, motivating private equity owners to push high-quality businesses with more limited trade / economic risk into the market soon to take advantage of the reduced target supply.
• The week after the April 2 tariff announcements witnessed five U.S. deals with disclosed values of $1+ billion, roughly in line with the typical pace of billion-dollar-plus deals.
  • Financial sponsors were the sellers in four of these transactions, demonstrating the pressure to achieve realizations even in a challenging backdrop.
  • Targets spanned the consumer, energy, healthcare, and technology sectors, indicating the breadth of sectors where large deals are still being executed.

Client Perspectives on Near-Term M&A Outlook

Frequent interactions with our financial sponsor and corporate clients have underscored how various issues tied to U.S. economic policies are affecting M&A activity. This section shares a sample of client perspectives, including commentary on how the macro landscape is altering their M&A pipelines.

While market participants are still finding their footing in the current environment, a variety of themes have emerged from our recent discussions with clients as well as lenders, with the summary below demonstrating how views have changed on many fronts since the beginning of this year.

Key observations on the current market include:

• Several sectors are being impacted by the macro environment, especially those closest to tariff noise, government spending / services, and consumer demand.
  “We had a busy start to the year, but things cooled meaningfully as trade tensions increased. In our view, cyclicals are weakening and there is increasing consumer pain. Deal flow is pretty quiet right now.” – Large-cap sponsor
  
  “Industrials deal flow is off over 30% for the same period in 2024.” – Middle-market sponsor

• While the market has slowed significantly, there are pockets of activity, with select processes still active and seeing meaningful buyer demand.
  “One sector within my universe that continues to find certain deals at high valuations is engineering and utility / infrastructure services. Fire and life safety continues to garner a lot of attention. Both are active at all sizes.” – Middle-market sponsor
  
  “Willingness to do M&A has not changed. However, the bar for M&A has risen. The scrutiny on a target’s KPIs has increased to ensure they are accretive and supportive toward achieving quarterly earnings. We will continue to look at large and small targets so long as they remain core to the M&A priorities and KPI thresholds.” – Tech & Services corporate

• Processes launched for “unaffected” companies generally plan to move forward in the near term, betting the “hyper-volatility” subsides. A limited number of buyers are risk-off, but many continue to be active; however, the environment is fragile.
  “There will continue to be deals coming to market and many will get done, but I suspect overall activity will trail both 2024 and 2023.” – Middle-market sponsor

• The continued need for DPI and capital deployment is keeping many financial sponsor sellers and buyers engaged in the market despite macro challenges.
  “There is a level of unpredictability right now makes the deal world difficult, but we are of the mind to try price this in and not miss out on opportunities.” – Large-cap sponsor

• The highest-quality assets are getting a disproportionate level of attention and strong valuations given the lack of activity broadly in the market.
  “It seems like there is still a bifurcation between processes that get all the attention with those businesses going for super high multiples and then a bunch of stuff that is not getting done.” – Middle-market sponsor

• For more “storied” assets, many sellers are considering narrow and non-traditional processes to “check” the market clearing price while avoiding the taint of a failed broad process.
  “We feel that lot of PE firms want to sell but are hesitant to jump into the deep end with a broad process if they are unsure of the outcome; to this end, we are seeing a lot of bankers try to engineer one-off discussions because of this, and we are receptive to these types of approaches.” – Large-cap sponsor

• Many strategics view their position as potential buyers as advantageous and continue to be selectively active and opportunistic.
  “Still very interested in M&A, which remains a high priority. We feel we are now more differentiated than private equity. USMCA compliance and U.S. manufacturing can be helpful to certain targets that are more impacted by tariffs.” – Industrial corporate

• Europe’s M&A has skewed toward Technology & Services due to macro exposure in other sectors.
  “At the end of Q1, we are busy with a handful of opportunities, most of them in bilateral discussions. This is just the nature of the European M&A market right now. Macro uncertainty is elevated, stemming from the new U.S. administration.” – European sponsor
  
  “Very busy currently. Good funnel / pipeline of opportunities in technology and tech-enabled services. Aiming to get two new deals done in the first half of 2025.” – European sponsor

• M&A valuations will lag the public markets, but we expect increased pressure if equity market declines persist.
  
  
• Many financing providers remain supportive of M&A but are more selective from a sector and story standpoint, with more risk perceived in larger deals and in the syndicated market and with anticipation of widening of spreads given the recent pressure on U.S. Treasuries. Direct lenders are standing behind already issued term sheets for non-tariffed businesses; however, new opportunities / credits are heavily scrutinized as the credit bar has risen.
  “We are very much open and looking to deploy. We are trying to take a view on what tariff impacts will be on cash flows. The private credit market is still open; however, nobody is trying to take price reductions to win deals.” – Direct lender
  
  “…Still looking to deploy. Underwriting standards / perspectives haven’t changed yet. New credits are getting more scrutiny.” – Bank lender

M&A Upturn Possible Later in 2025

Although the uncertainty weighing on the M&A market likely will linger for a period of time, we see potential for deal activity to rebound from depressed levels whenever the macro landscape stabilizes. An optimist’s view would be that the recent tariff pause will lead to more constructive trade policy, which coupled with growth stimulus through deregulation and favorable tax policy in the U.S., could drive a strong recovery in H2 2025. Regarding U.S. trade policy, the next few months are expected to include tariff negotiations and updated agreements with many countries. Once the currently high level of unknowns subsides, buyers, sellers, and management teams will have greater ability to plan as well as more confidence in projections, even if lowered due to policy changes. In addition, favorable underlying M&A market drivers should support deal activity as conditions improve.

“ Our M&A backlog remains at record levels. Fundamentals remain intact for an acceleration in M&A activity as uncertainty subsides.”

Todd Noffke
Co-Head of Global M&A

Potential Positives in H2 2025

• Although the first half of 2025 is tracking toward a deal count decline, the balance of the year should benefit from additional pent-up demand and supply, which were key elements of the M&A bull case entering this year.
  • We witnessed a similar scenario in 2020, when severe M&A weakness in March-June during the early stages of COVID was followed by an upturn for deal activity in the second half of the year even as the pandemic persisted, fueled by the resumption of many paused sale processes.
  • The concept of second-half improvement from a slow Q1 has support from a broader historical perspective. In 1995-2024, global deal counts were down year-over-year 13 times in Q1, falling an average of 10% (similar to Q1 2025). During these years with Q1 declines, second-half deal counts were essentially flat year-over-year on average, including several cases of substantial growth.
• Companies impacted by tariffs could be more viable targets in H2 2025; once any updated tariff agreements are in place, these businesses will have had time to identify, forecast, and prepare for various future scenarios and integrate those plans into their financial projections.
• To date, the early enthusiasm about a pro-business U.S. presidency has been outweighed by the expected impact of initial policy actions on demand and inflation. Factors that could bolster the confidence of corporate management teams include the retention of prior corporate tax cuts, progress on new tax reductions, and evidence of rollbacks to existing regulations on business activity. Tax cuts at the corporate and individual levels may be in the works as the Trump administration attempts to offset the higher cost burden caused by tariffs.
• Financing rates could fall later in the year if major central banks view the economic growth outlook as a larger concern than inflation. The U.S. Federal Reserve’s benchmark rates are now expected to drop 50-100 bps by year-end 2025, largely due to the increased recession risk caused by recent trade policy actions. In Europe, fears of economic contraction could push the European Central Bank and the Bank of England to implement incremental rate reductions. Also of note, loan spreads could widen due to increased caution among lenders and investors, offsetting at least some of the benefits of lower benchmark rates.
• A more protectionist U.S. trade policy could catalyze cross-border M&A. Non-U.S. acquirors serving the U.S. market might seek to mitigate trade risk within their businesses by obtaining manufacturing capabilities in the U.S. While this scenario will take time to fully play out given the length of deal cycles, we note that the Q1 2025 deal count for cross-border strategic M&A involving a U.S. target was down only slightly year-over-year, outperforming overall M&A activity. Likewise, retaliatory tariffs from U.S. trading partners could compel U.S. strategic acquirors to look globally for regional / local targets that secure important markets, although this dynamic may not be apparent in the M&A data until later in the year.
• Robust M&A in certain sectors during H1 2025 should translate to more activity among participants encouraged by evidence of positive outcomes. For example, our M&A process launches in February-March skewed to Technology & Services businesses, many of which are relatively insulated from prominent macro headwinds. Across sectors, top-quality assets are still enjoying strong buyer interest and achieving peak (or near-peak) M&A valuations in our sellside processes, benefiting from the scarce availability of such businesses.
• Obstacles to completing regular way M&A transactions in the near term could lead more PE firms to pivot toward solutions such as continuation vehicles, sales of significant minority stakes, recapitalizations, and structured equity.

Many M&A Market Drivers Still in Place

Sound fundamentals for sponsor and corporate deal flow should restock the M&A pipeline and renew buyer appetites as macro uncertainty abates. As summarized below (and as detailed further here), key M&A drivers and indicators suggest high levels of activity once the backdrop improves.

No matter how the rest of 2025 plays out, buyers and sellers must adapt their M&A strategies to evolving market conditions. The dynamic macro situation forces companies pursuing M&A and their advisors to consider more scenarios when performing forecasting and analysis, adjust execution and messaging to specific buyers, and explore more flexible process structures. Please contact Baird’s Global M&A Team to discuss how to navigate the current environment.