Determine Whether an Acquisition Makes Sense for Your
Firm
Goal: Formulate a clear vision of your company’s
direction and how an acquisition can support your strategy.
M&A is not an activity; it’s a strategy for
growth. When a company decides to acquire another firm, it’s deciding
that acquisition is a more effective way to expand than the slow process of
organic growth. Because of this, the impetus for a merger should emerge
naturally from your overall corporate strategy.
Unfortunately, that’s not always the case. Sometimes
the idea of a merger or acquisition emerges out of opportunity. A competitor
has a weak year — why not buy them out for a low price? An internal
project flops — why not acquire a startup with a similar product?
Such acquisitions almost always go sour, according to Edward Weiss, who was
general counsel for Group 1 Software when it acquired several firms and was
itself later acquired by Pitney Bowes. “An acquisition without a
strategy is like impulse shopping,” he says. “You always end
up with something you neither want nor need.”
That’s why you need a well-defined corporate strategy.
It allows you to cast aside any deal that doesn’t move the strategy
forward, even if it looks incredibly attractive. “It’s not
about growing for growth’s sake; it’s about building a
viable company,” Weiss says.
Nitty Gritty
The Five Strategic Tactics Behind M&A Activity
Within any corporate strategy, there are five tactical
reasons to acquire another company. Most acquisitions combine one or more of
these:
| Tactic | Example | Why It Works | What Can Go Wrong |
|---|---|---|---|
|
Grow market share quickly |
Synovus grew to become a $4 billion holding company by acquiring dozens of banking institutions throughout the southeastern United States. |
Acquiring a firm can build your finances faster than just growing your firm organically. |
If the acquisition goes sour, revenue and profit can dry up faster than a drainage ditch in Phoenix. |
|
Improve utilization of cash on hand |
Microsoft had so much cash in the late ‘90s that investors demanded the firm spend some of it on acquiring other businesses. |
Investors think that money sitting in a money-market account is wasted equity. |
Investors might prefer that you up the dividend or launch a stock buy-back. |
|
Provide additional products for current customers |
Cisco, which dominated the market for corporate networking hardware, bought Linksys in order to enter the home networking market. |
If they complement your current products, the whole could be greater than the sum of the parts. |
If the product hasn’t been proven in the marketplace, you could end up with a product nobody wants. |
|
Recruit hard-to-find personnel |
IBM acquired PricewaterhouseCoopers to secure a large number of management and technology consultants. |
Acquiring talent in one mighty swoop can be easier than running a series of job fairs. |
Acquired employees may not be comfortable in the new environment, resulting in an exodus of talent. |
|
Expand into new markets |
Sony purchased Columbia Pictures Entertainment, instantly becoming a media giant as well as an electronics giant. |
Acquisitions immediately bootstrap you into the new market, without forcing you to build a new business from scratch. |
Multiple markets can make it difficult for management to focus on being successful in any one business. |
Winnow Down the Possibilities
Goal: Pick the company that best matches your
corporate strategy.
Once you’ve decided that an acquisition strategy is
the best way to move your corporate agenda forward, you need to build a list of
potential acquisition targets and then winnow them down to the one or two that
have the best chance of success.
There are two primary ways to find firms worth acquiring. The
first, according to Randy Tinsley, vice president of corporate business
development at Synopsys, is to find ideas that bubble up from the bottom of
your own firm. Tinsley’s company, a $1.1-billion-a-year software
firm, has made several dozen acquisitions in the past decade. “Our
deals typically start when an engineering manager stumbles across a startup
that’s doing interesting work in his or her area of expertise,”
he explains. For example, in 2005, programmers at Synopsys noticed that a group
of Armenian engineers were posting insightful comments about abstruse
computer-chip design issues on industry forums. The internal buzz about these
Armenians bubbled up to top management, resulting in an acquisition of LEDA
Design, the Armenian firm that employed them.
The second way to find candidate firms is to hire a consultant
who knows the industry and knows what’s available. “Some
industry sectors are growing so fast that even big companies and major
investors don’t always know what’s going on in the
trenches,” says Stephen Einhorn, president of Einhorn Associates, a
company that helps chemical and life-science companies find investors. “Having
access to an organization with a deep understanding of your target industry is
crucial to making strategic investments of any kind.” For example,
Einhorn recently helped Sherwin-Williams locate, evaluate, and acquire Duron,
Inc. and Conco Paints, assisting the largest paint company in the United States expand its sales to architectural contractors.
Once you have your list of companies, winnow them down to the
most likely, without going through the effort of a full due diligence. The best
way to do this is to create a matrix that allows you to compare the candidates
against your strategy (see below). Then bring your team together to discuss the
pros and cons of each deal. At the end of this process, you should have an idea
of which firm is the best match.
For Example
Sample Comparison Matrix
Here’s a simplified comparison matrix for a
company whose strategy is to become the industry leader in GPS mapping
software:
| Requirement | Company A | Company B | Company C |
|---|---|---|---|
|
Grow share to 51 percent in our current market |
Commands 12 percent. |
Commands 3 percent. |
Commands 18 percent. |
|
Acquire 15 new engineers for customer service |
Has staff of 12 programmers; some may be willing to move to customer service. |
Outsources this function. Contracts may be transferable. |
Has staff of 25 support engineers, located in Alabama. |
|
Expand into commercial aircraft GPS |
Not a participant in this market. |
Commands 24 percent of this market. |
Not a participant in this market. |
|
Estimated purchase price of less than $250 million |
$210 million |
$72 million |
$158 million |
|
Compatible software environment |
Yes (Windows) |
No (LINUX) |
Mixed (Windows and LINUX) |
Perform Your Due Diligence
Goal: Ensure that the candidate truly matches your
strategic goals.
Now that you’ve winnowed down the field, it’s
time to dig into the details — before getting involved in discussions
with the target’s management. That means due diligence, a process
that’s like competitive research on steroids. Below are the steps you’ll
need to get it done. For a quick analysis of the numbers you may uncover in
your research, see our
href="http://www.bnet.com/2403-13241_23-163241.html">M&A Quick Analysis Worksheet.
1. Build a target profile. Use Internet research to
compile a detailed document that describes the target organization. The
portfolio should include news stories, conference proceedings, blog entries,
SEC filings, and any other publicly available information on the company, its
business, and its personnel.
2. Analyze the data. Corporate acquisitions are
complicated, so you’ll want to draw upon the expertise of your entire
team. The earlier you get the right people involved, the more likely you’ll
end up with a successful deal. “There are so many different aspects to
M&A that it would be very foolish to try to proceed based upon a single
perspective,” says Doug Brockway, a managing director at Innovation
Advisors, an investment bank that provides services to mid-market technology
companies. In addition to consulting lawyers and financial experts, talk to HR
about the potential for relocations, compensation changes, and layoffs and IT
about whether the acquired firm’s hardware and software will
integrate with your own.
3. Look for roadblocks. You can save yourself a lot of
grief down the line if you locate anything now that might cause a problem
during the negotiation and execution phases. For example, a lawsuit that’s
not disclosed in the financial filings is a major cause for concern because you
could end up acquiring the liability to make good to the plaintiff. Similarly,
a blog entry complaining that the target’s CEO tends to blow up at
meetings is a warning that you may be subjected to some executive bluster.
4. Decide whether to go forward. You’re looking
to confirm that the company is a good match and will be successful under your
corporate umbrella. “It isn’t just about whether that
company is right for you; it’s also whether you are right for that
company,” says Jack Cooper, president of JM Cooper &
Associates and former CIO at both Bristol-Myers Squibb and Seagram. “For
a merger to be successful, your company must have a cultural and technological
environment that will allow the acquired firm to survive the merger and grow,
rather than simply wither on the vine.”
5. Give yourself one last chance to back out. Now that
you’ve run the numbers, it’s time to do your emotional due
diligence. What is the real reason you want to acquire this company? Is there a
vanity factor for the CEO (“I want to be the big shot who bought XYZ”)
or for the company (“we want to dominate the market”)? Are
there unrealistic expectations that this deal is the magic solution that will
save your company? Behind most failed mergers lurk ego- and insecurity-driven
motivations. If you suspect this is the case, don’t be afraid to back
out. The cheapest time to correct errors in judgment is now.
Essential Ingredients
Due Diligence Made Easy
Here’s are the four sections that should be
included in any due-diligence portfolio:
1. The financial data. If the target company is
publicly held, retrieve its last 12 10Q reports. Have your team read them,
cover to cover, looking for anything out of the ordinary. Was revenue restated?
If so, why? Is the brand name listed as a hefty asset? If so, who assessed the
value? Is the company being sued or suing someone else? How strong is its case,
and what does the lawsuit say about the target firm? In the end, you should
know more about the target than a mere investor would.
2. The news profile. In today’s wired world
every company leaves a trail of news stories. Examine what’s been
said about the company in the press. Pay particular attention to statements by
customers and analysts about the viability of the company and its products.
Remember to filter out anything that’s clearly from a PR group; focus
instead on bylined articles published in reputable magazines, newspapers, and
websites.
3. The key employees. Peruse the company website and
the Web to discover the 10 most important management and nonmanagement
employees. Spend at least half an hour on Google, researching who each person
really is and what they’re really like. Don’t just retrieve
their online resum s; find out their hobbies, their interests. And don’t
forget to do a background check on a service like [[www.intelius.com]
[Intelius]]. If there are legal skeletons in any closets, you’d best
know now.
4. The corporate culture. Browse the company’s
website to get a feeling for how they’re presenting themselves to the
world. Then, to find out what the place is really like, examine the job
postings on the recruiting page. The line managers who write those postings
want to hire someone useful, not promote the corporate image, so these notices
give a snapshot of what really goes on inside. For example, if the corporate
mission statement touts customer satisfaction but the descriptions for sales
jobs are all about moving product quickly, you can be pretty certain that the
customer satisfaction talk is just that — talk.
Prepare to Make Your Offer
Goal: Meet with the target to decide whether to move
forward.
Contact the management of the target firm with the (hopefully)
good news. If they’ve put themselves on the market, they’ll
probably welcome your interest and invite you to their headquarters to find out
more.
If your interest is likely to be a surprise, though, diplomacy
is in order. Contact the CEO of the target firm and ask for a one-on-one
meeting, preferably at a neutral location, like a local restaurant. While the
CEO will probably be able to guess what’s up, broach the subject
carefully, being sure to praise both the firm and its leaders. Ask him to
discuss the idea with his team and his investors. Then set up a broader
meeting, at the target’s headquarters, to discuss the idea with the
CEO’s management team.
When you get to the target’s headquarters, you’ll
need to do two things. First, lay the groundwork for future negotiations by
presenting a positive and upbeat view of your company. This stage of the
process is like the beginning of a courtship; you want to put your best foot
forward — not insert it in your mouth. Second, you want to confirm
that the company is the attractive acquisition your due diligence has
indicated. When you meet with management, dig into the details of their
business. Get the answers to any questions that remained unanswered during the
previous step.
Most importantly, assess their enthusiasm for what they have to
offer. “There are two things I look for when a company tells their
story,” says Mitchell Kertzman, venture capitalist at Hummer Winblad
Venture Partners and former CEO of Sybase, Powersoft, and Liberate
Technologies. “The first thing is enthusiasm; I want to see somebody
who has the same kind of passion and commitment that Richard Dreyfuss had in ‘Close
Encounters of the Third Kind.’ The second thing is candor. I want to
know whether they can be trusted to reveal things that might not be in their
interests for me to know — before I get out my checkbook.”
(Note: Kertzman previously sat on the board of directors of CNET, the parent
company of BNET.)
Checklist
Questions to Answer Before You Make an Offer
There are six questions that must be answered to your satisfaction
before you even think about closing a deal. You can’t just blurt out
these questions during meetings with the target’s management, but all
your research and interviews must drive toward answering them:
1. Are the numbers real? You’ve examined
the target’s financials, of course, but you should push to find out
if there are any inconsistencies. For example, if revenues spiked up at the end
of the fiscal year, were they dumping inventory on customers to make the
numbers look good?
2. Are the products real? Some industries, notably
high tech, are so riddled with hype that it’s not always clear what’s
real and what’s just a concept. If the product is released, check
with customers to be sure it really works. If it’s pre-release, have
your own experts poke and prod to be sure it’s what the company says
it is.
3. What’s the quality of the management? You
should have a good feeling about the competence of the target’s
management team, especially if you’re expecting to keep them onboard.
Ask them how they’d handle different situations and then ask yourself
if you would want to work for them. If not, there may be conflict ahead.
4. What’s the quality of the employees? Since
you’re acquiring people as well as product, be sure that the people
who know how to build, upgrade, and support the product are still onboard. You
don’t want to find out after the acquisition that the real brains
behind the organization left a year earlier.
5. How well do they match your corporate culture?
This is subjective but extremely important. Your existing organization will
have to work, day in and day out, with the new folks. Is that going to seem
natural — or is it going to be a forced fit?
6. How well do they match your corporate strategy?
Sure, you went through the analysis in the earlier steps, but this is your last
chance to revisit your logic. Does it still seem like a good idea? If so, then
it’s time to enter the negotiation phase.