COLORADO: An Introduction to Corporate/M&A

Corporate/M&A in Colorado Overview 

Colorado, with its variety of industries, population growth, strong employment, and highly educated and tech-oriented workforce, is a very attractive place for both emerging growth and established companies to flourish. A number of major corporations from other regions, primarily California, have relocated their corporate headquarters or established significant secondary headquarters in the last few years. Smaller companies from the coasts are also part of the in-migration trend. Through job-creation tax credits and other incentives, the Colorado Office of Economic Development and International Trade has been aggressive in luring out-of-state companies to relocate to Colorado and encouraging local companies to continue their growth in the state.

As M&A practitioners, we have historically seen Colorado as a market where successful growth companies are acquired by out-of-state buyers and relocated. However, four homegrown Colorado companies achieved Unicorn status (over $1 billion in valuation) in 2019 and 2020. The combination of corporate relocations and homegrown independent entities is a testament to Colorado’s development of a strong investment and business ecosystem and recognition that Colorado is a sustainable and vibrant place to do business.

Driven by 25% employment growth and 17% population growth during the last decade, Denver was recognized in a report by JLL Capital Markets in April 2021 as one of the top eight 'rising star' or 'growth cities' in the US. As such, Denver is increasingly challenging gateway cities such as Los Angeles, San Francisco, and New York for investment opportunities, according to this report. Denver is ranked in the top five US markets for job recovery and is expected to benefit from increased investment inflows.

Startup and emerging growth companies have been significant contributors to the expansion of business. In 2020, WalletHub ranked Colorado sixth in the US for innovation and fifth for its overall economy. Young college graduates, as well as serial entrepreneurs, are attracted to the state because of business incubators, a collaborative environment that supports their efforts to grow and quality of life.

Growth has occurred across industries. During the past four years, the fastest growing industries for venture capital funding were business productivity software, aerospace and defense, drug discovery, financial software and healthcare. Colorado-based companies also have achieved successful liquidity events, with the state ranking eighth nationally for exits in 2020. During that year, a total of 117 startups were acquired, merged or exited.

A major challenge for many early stage and growth companies in Colorado remains access to capital. Major investors have increased their minimum performance criteria for investment, which results in many 'good' companies not obtaining investments that otherwise might have been made in a less competitive economy. Over two-thirds of the money invested in startup companies has come from out-of-state firms or individuals. As more Colorado companies achieve near-Unicorn status and generate attractive returns for their investors, Colorado’s emerging companies are hoping to attract more locally-based investment and an overall increase in access to capital.

On the M&A front, investors and lenders have significant capital that they wish to deploy. The lull in deal-making late in the second quarter and into the third quarter of 2020 gave way to a robust fourth quarter. In 2021, the prospects of tax increases at both the federal and state levels are already motivating many business owners to start a sales process to close by the end of 2021. In addition, due to the slowdown in deals in the second and third quarters of 2020, private equity firms fell behind their capital deployment schedules and have pent-up capital they need to invest. Commercial lenders are also becoming more aggressive, adding to the pool of capital to fund M&A. These factors are expected to drive strong M&A activity through 2021.

Sellers with strong EBITDA are expected to benefit from a competitive marketplace. One trend is private equity firms seeking to acquire companies with preemptive offers to take a seller out of a formal sales process. This is driving EBITDA multiples higher, and beyond market expectations. Though 2022 could see a slowdown in M&A deals as a result of sellers completing transactions ahead of anticipated tax hikes, the longer-term M&A market in Colorado appears to be strong, particularly as business owners look to cash out to fund retirements over the next five to ten years.

The COVID-19 pandemic has created diligence issues on both sides of the performance equation. Businesses that thrived during the pandemic will need to convince buyers that performance will not lag as we return to a more normal business environment. Businesses that saw performance suffer must convince buyers how things will improve and return to pre-COVID-19 growth trajectories.

In 2020, businesses in industries that thrived in the pandemic, such as healthcare and technology-focused companies, represented a disproportionate number of successful exits. In 2021, as the pandemic recovery takes hold, the market is expected to be robust for a wider array of industries, including those that can show a quick path to recovery or that have proven they are both recession and pandemic proof. The latter category includes HVAC services companies and, in robust real estate markets, particularly those such as Colorado that are experiencing strong in-migration, building products suppliers and real estate services. Retailers without significant online presences and hospitality companies are expected to be less successful in seeking exits due to pandemic recovery uncertainties.

The startup and emerging growth company environment in Colorado presents attractive opportunities for lawyers. These companies require legal assistance throughout their life cycles, including with formation, tax planning, intellectual property protection, employee incentive plans, financings, capital investment, commercial transactions, and, for the successful ones, M&A (on both the buy and sell side). Full-service law firms have the opportunity to develop long-term professional relationships with clients by acting as outside general counsel to help guide clients through their evolving legal needs in all stages of their growth from formation to exit.

The growth of Colorado’s business climate has led to an increase in the number of national and international law firms establishing branch offices in the Denver area, with many seeking to grow their corporate/M&A departments with established local practitioners. Another trend we have observed is the movement by some of these local practitioners from the big firms to mid-sized local and regional firms where they can offer their clients a full suite of services and customized fee arrangements.