The UK’s 2023 Spring Budget detailed the government’s economic strategy, with three objectives at its core: economic productivity, reducing debt, and curbing inflation. The mergers and acquisitions market wasn’t directly mentioned, yet Chancellor Jeremy Hunt did confirm a corporation tax rate hike for the financial year from April 1, 2023. This increase will impact how deal makers and investors approach the UK for new opportunities.
A Brief History
Considering the government’s approach to corporation tax in the last 15 years, the move is a significant policy reversal. Between 2010 and 2015, successive UK administrations decreased the corporation tax rate from 26% to 19% over consecutive periods. The rate decline was part of a broader move to make the corporate tax system more competitive, promoting revenue generation in the UK over taxable income.
This rate remained in place during two significant events—the market adjustment to the Brexit announcement and the Covid-19 pandemic. Then, in March 2019, former Chancellor Rishi Sunak announced that corporation tax would rise to 25% beginning in April 2023. This was confirmed in the spring budget, where even a 19% corporation tax regime didn’t “incentivise investment” as effectively as countries with higher rates.
HM Treasury estimates the full tax rate is likely to only impact one in 10 UK businesses. For companies generating less than £50,000 ($62,000) in profit, the rate will stand at 19%. Marginal rates between 19% and 25% will be applied for companies with profits between £50,000 and £250,000, while companies generating £250,000 and above will fall into the 25% bracket.
To understand how the corporation tax will increase M&A activities, it’s useful to consider the market’s current state. Following a strong post-pandemic UK recovery, the number of monthly deals has declined. Research from the Office for National Statistics shows that cross border and domestic M&A deals fell from 183 in October 2022 to 127 in December 2022.
There is optimism that deals may rise over the course of 2023, both globally and in Europe. Despite concerns about the broader economy and the prospect for a US recession later this year Datasite’s Forecaster reports that the number of deal kickoffs ticked up 5% in March from February, despite bank industry turmoil. While still down compared to March of 2022 and 2021, they were bolstered by an unusually robust February, which meant that the first quarter average monthly volume dipped only 1% below the first quarter of 2021, a historically strong M&A year.
Additionally, March deal kickoffs were also up 79% from 2020, an even better year to draw historical comparisons. Furthermore, deals are closing. M&A pipeline volume dropped just 4% if comparing the last 12 months with the prior year’s 12 months, which included the start of the Russia-Ukraine war and a freeze in M&A.
So, announced activity may rise, but will the corporation tax increase hamper future M&A activities, just as some air in the market may be coming back? And to what extent will the change impact decision makers and the overall competitiveness of the UK against other international markets?
In one respect, the tax rate rise brings the UK in line with the majority of its European counterparts. While the average corporation tax rate in the EU is 21.7%, comparable jurisdictions like Germany and France already have a rate about 25%. The comparatively low tax rate has no doubt played a role in attracting cross-border M&A activities, particularly when it comes to international takeovers of UK businesses. While the low value of the British pound will provide an ongoing incentive for foreign companies looking to acquire UK businesses, the increase in corporation tax could play into any final decision.
From a domestic perspective, a higher tax burden on corporations will limit the amount of leftover capital available for businesses to consider M&A activities as part of their growth strategies. There are significant advantages when using M&A to expand a business. These include a cost-effective way of expanding into new markets and the acquisition of new technologies and services to enhance an existing company offering. For companies generating £250,000 and above in revenue, the 6% increase could limit the future expansion opportunities for mid to large cap firms.
Beyond the corporation tax, there are also other trends to consider. Although inflation and interest rates continue to rise, they are no longer growing at the rates they did in 2022. This not only provides a more realistic valuation of businesses, but this stability means deal makers can now see a clearer deal scope for the remainder of 2023.
With this market thaw, companies are starting to strike at new opportunities. UK assets also continue to be attractive, especially as private equity firms continue to deploy their funds. In recent weeks, there have been several big private equity bids for companies, a strong indication of a market entering a recovery phase.
Lastly, Hunt announced his intention to make the UK a leading destination for companies seeking to list. More information on how this will be achieved is to be detailed in the 2023 Autumn Statement. Based on the impact the corporation tax hike has on the financial markets, the autumn statement could be the opportunity to assess and consider whether further tax reforms are required.
It’s a tricky balancing act for the government, which is seeking to promote the UK’s competitiveness while also generating tax revenue to cover public finances. The corporation tax hike will impact market perceptions of the UK and will indirectly play on the minds of M&A deal makers. The extent of this impact will be revealed over the coming months.
This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.
Merlin Piscitelli is chief revenue officer for Europe, the Middle East and Africa, at Datasite.
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