Will Interest Rate Cuts Affect Online Business Acquisitions?

Happy Labor Day.

Last week the PCE report came in a little softer than expected.

This has basically given a clear route for the Fed to start reducing interest rates later this month, with the market expecting a 25 basis point reduction (or 0.25% in plain english).

Other countries are likely to follow suit, or already have.

To some extent, 0.25% is not particularly significant, especially as that will still keep interest rates above 5% until further cuts come in to play later this year and throughout 2025.

But at the same time, it is already significant.

It finally marks a shift in policy that could lead to higher asset prices, cheaper, and more readily available capital, and the beginning of the next phase of the credit cycle.

In our online business world, it means we should start seeing acquisition multiples increasing again.

Right now it’s difficult to predict exactly how everything will play out, and I’m not an expert in the correlation between interest rates and asset prices.

Instead, I’ll just write about what I’ve seen, what I’ve read, and what I think might happen, and you can do with that information whatever you see fit.

How Did Interest Rate Increases Impact Multiples?

Based on what we saw, multiples did come down across the board as interest rates rose, but it didn’t happen right away. As late as early 2023 acquisition multiples were still at their peak.

I think there are three main reasons for that:

1. A lot of buyers had capital already to deploy, raised at lower rates, so didn’t feel the need to pay less for assets. They also had to deploy that capital quickly before it got redeemed.

2. Competition among buyers was still strong in 2022.

3. Sellers weren’t willing to accept the new norm of lower prices.

Eventually though, buying activity slowed down as capital dried up, became more expensive, and people were worried about the economy. ChatGPT’s release didn’t help either, as many people wanted to wait and see how AI would impact businesses.

Many businesses also had pretty rough PnLs coming out of 2022, mostly due to their clientele spending less money and them having overhired in 2020-2021.

This meant there were fewer people courting them, as there was a lot of uncertainty around their forward-looking financials.

So as 2023 played out, and things like the SVB collapse exacerbated matters, we suddenly saw sellers that were happy just to get an offer.

Multiples dropped from 4.5x to 3x on average, the amount of seller financing available increased, cash up front decreased, and competition cooled.

What Does The Data Say?

I wanted to find some data to back up this article, and fortunately Flippa has some excellent Data Insights pages now.

I’ve pulled the ecommerce and services graphs below.

Ecom businesses

Service-based businesses

As we can see, multiples definitely collapsed in 2023, but it took longer than expected.

eCommerce multiples held up pretty well, despite D2C eCommerce businesses experiencing a lot of issues with rising interest rates (suddenly inventory sitting in a warehouse actually cost money!).

Interestingly, the quality of businesses on the market didn’t decrease, making it a good time to be a buyer.

Sure, some types of businesses like content sites became less appealing, but there are still quality businesses for sale and ample opportunities in every revenue model.

You might also notice that the top decile multiples didn’t decrease as much as the average multiples.

There’s always demand for the best businesses, so they’ll always fetch a good price. The main difference is in the period from 2016-ish to 2022, the prices for all assets went up.

Real Estate works the same. The houses closest to the city center or other prime locations will always fetch a good price, but in a periods of high demand, people start buying up the property further and further away from the prime locations, causing their prices to rise too (this is where you hear about things like “an everything bubble”).

When demand falls, those are the first properties to lose their valuations, but the ones in the center still hold up well.

You can see the same thing with online businesses. In 2022 pretty much anything would sell for a good price in a short period of time.

That is no longer the case.

Does that mean if you want to buy something for a lower multiple you have to accept lower quality?

Not quite, but there definitely is more opportunity in the B+ to C- assets.

Numba Go Up?

So yes, increasing interest rates made businesses cheaper to buy and less cash needed, but it took quite a few interest rate hikes before that happened.

One 25 basis-point rise wouldn’t have made much difference, so will one 25 basis point decrease make any difference at all?

I think what is more significant is the signal and how everyone will start trying to front run future cuts. People are already assuming the Fed will make another two 25 basis cuts this year, for a total of 0.75% in 2024.

These assumptions lead to everyone getting ready for buying.

We are seeing that play out somewhat in the public markets already.

Usually when the government starts cutting interest rates, it’s because the economy is weak, we’re in a recession, and businesses are failing, so interest rate cuts are not necessarily met with rising asset prices initially.

But with the economy still looking at least in “Ok ish” shape, maybe we will just see a flurry of activity and people starting to chase deals faster than previously.

Will FOMO mean suddenly businesses go up in price and competition intensifies?

I think it’ll take until the second part of 2025 for us to really see that kind of activity.

Now Is A Great Time To Buy - And An OK Time To Sell

This does mean that now is probably a great time to be a buyer then:

1.) Most online businesses have been through the rough patches already, making them more appealing acquisitions.

2.) Valuations are likely to rise rather than decline over the coming years

3.) As more capital becomes available, people will spend more, businesses will spend more, and that acquisition you make today should become more profitable in the coming months…if you know how to operate it.

This is essentially the equivalent of buying the dip, with the assumption that earnings and valuations based on those earnings will both increase in the near term, if all else were equal.

Sure, you still have to buy well, operate well, and make sure the earnings don’t collapse on your watch.

And if you’re a seller, are you better off waiting a year before selling?

Maybe. I do think you’ll get a better multiple a year from now, but your decision to sell shouldn’t be based solely on multiples.

If you think you can happily run your business for another year, then go for it. But if you’re ready to move on, don’t feel like selling now is a bad time.

There’s no point wasting a year of your life, burning out, and maybe getting a higher multiple on fewer earnings in a year.

How Does This Impact Our SPV?

We’ve stayed “risk on” with regards to buying activity the whole time. Our entire business model is growth via acquisitions.

So we always think it’s a good time to buy.

That being said, there are a few things coming together which make it a great time to start buying up assets:

1.) Organic growth is likely to accelerate (businesses themselves are growing again)

2.) We are “buying low” now and will be able to take advantage of higher multiples in the years to come.

3.) We are ahead of our competition with a better pipeline, more deals negotiated, and a stronger understanding of the space, since we’ve been active the whole time.

I like to think of it as being on a long moving walkway which is just about to start ascending. Hop on for the ride.

Dom