As borrowing costs decline and liquidity improves, expect a resurgence in private equity deals, valuation expansion, and exit velocity.
The Federal Reserve last week cut its benchmark interest rate by 25 basis points, lowering the federal funds rate to a range of 4%–4.25%. This move — the first since December 2024 — signals a shift toward monetary easing amid a softening labor market and persistent inflation.
Why the Fed rate cut matters for private equity
The rate cut is particularly impactful for private equity (PE) firms operating in the lower middle market, where deal economics are more sensitive to borrowing costs and capital availability. Here’s how:
Cheaper and more accessible leverage
Lower interest rates reduce debt costs, making it easier for PE firms to finance acquisitions. In recent years, high rates had forced many sponsors to rely more heavily on equity, with debt-to-EBITDA ratios falling and interest coverage ratios tightening. This cut marks a turning point, potentially restoring more traditional capital structures and improving deal flow.
Improved cash flows for portfolio companies
Many lower middle market businesses are highly leveraged and operate with thin margins. Lower rates ease the burden of interest payments, freeing up cash for reinvestment, hiring, and growth initiatives. This is especially critical for companies facing near-term debt maturities or refinancing needs.
Higher valuations and exit opportunities
Interest rates and valuations are inversely correlated. As borrowing becomes cheaper, buyers can afford to pay more, lifting EBITDA multiples. This benefits both buy-side and sell-side dynamics, especially in sponsor-to-sponsor transactions, which represent a significant portion of PE exits.
Reinvigorated deal activity
The lower middle market had seen a slowdown in dealmaking due to expensive and restricted debt. With rates easing, PE firms are expected to resume acquisitions more aggressively, particularly in fragmented industries ripe for consolidation.
Strategic implications for private equity of the Fed rate cuts
- Independent sponsors and smaller PE funds may find renewed access to debt markets, enabling more competitive bids.
- Family-owned businesses considering succession may see increased interest from PE buyers, as valuations rise and financing becomes more favorable.
- Lenders may re-enter the market with more flexible terms, supporting mezzanine and unitranche structures that had been sidelined.
How CLA can help private equity companies with deals
The Fed’s rate cut is more than a monetary policy adjustment — it’s a boon for private equity in the lower middle market. As borrowing costs decline and liquidity improves, expect a resurgence in deal activity, valuation expansion, and exit velocity. For PE firms and business owners alike, the window of opportunity is opening wider and CLA can help whether you’re buying or selling.