By Hal Craig, Trout Creek Consulting, LLC
 
This is the second of two parts about questions to ask before making a merger or acquisition.  
 
Is there a good cultural fit between the buyer and target?   It’s a given that firms must learn to (a) work effectively with people around the world since the locations of customers, suppliers, talent, and regulators necessitate a global perspective; (b) adapt to and adopt new technology; and (c) succeed in an environmental of generally increasing regulation.  Separate from this, the cultural fit between buyer and target organizations is very important for synergy realization, keeping the “magic” that made the acquirer and target successful as standalone companies, and ultimately, the ongoing viability of the merged organization.  The many facets to consider when assessing cultural fit include:

• Business model (e.g., product, service, “razor and blades”, licensing)

• Compensation (e.g., variable pay, equity incentives, holiday/vacation/sabbatical policy, flexible hours and location)

• Decision making processes (e.g., hourly “2 minute management meetings to touch base" versus annual 1,000 page “Strat Package” review; consensus versus top down)

 

• Financial (e.g., frequency, quality, and time horizon of forecasts; project accounting)

• Organization norms (e.g., definition of business casual, class of air travel, gym and even a rock wall at the office, donut Fridays versus wine cooler Fridays – yes, I know of a firm where the East Coast office supplied donuts on Friday morning while the West Coast office supplied wine coolers and hors d’oeuvres on Friday afternoon)

 

• Organization structure (e.g., matrix, global business unit, regional leadership)
  
  

With cultural differences it is important for the acquirer and target to understand each other’s frame of reference.  For example, a manufacturing company that acquires a high-touch service company or a software company will need to understand that the target’s “assets go home every night” and that the business models, cost structures (e.g., % of sales for COGS, SG&A, R&D), and value drivers of the acquirer and target will be different. 

Are there other ways to achieve the strategic vision?  Is this the only acceptable strategic vision?  Strategic buyers can become fixated on a specific target or targets – “either we buy X or bust” – either overpaying to secure the target or fumbling going forward when the acquisition doesn’t occur.  It is very important for companies to think through multiple routes to reach their desired strategic vision.  Having a “first choice” acquisition target shouldn’t mean an “only choice” path to growth.
 
Strategic visions so narrowly defined as to allow only one or two acquisition targets with minimal alternative routes (e.g., joint venture, internal development which is otherwise known as innovation) to achieve the vision may be unachievable given the probability of acquisition success.  Viable strategic visions should (a) result in value creation for the firm and (b) be achievable via multiple paths.
 
Does the acquisition move the needle?  This question is not an endorsement of large, transformational acquisitions over smaller, bolt-on acquisitions.  Rather, this question is an endorsement of investing resources in deals that create material value for the buyer's shareholders.
 
Do we have an integration plan and the talent to execute the plan?  It is one thing to know how, how much, and when value should be created; it is another to achieve value creation.  The detailed integration plan and the talent to execute it should be in place at deal closing.  Buyers should be realistic about the quantity and quality of talent that will be necessary to achieve a successful acquisition integration that delivers synergies while keeping the pre-acquisition businesses of both buyer and target running smoothly.
 
Do we have a clear, easy to communicate, rationale for the acquisition that important stakeholders will understand and support?  There are many stakeholders in an acquisition – investors, boards of directors, management teams, regulators, creditors, employees, customers, financial analysts, media, suppliers – several of whom can stall an acquisition or limit value creation should the acquisition proceed.  The buyer should identify the most important stakeholders for a particular acquisition and have a rationale and method of communication that obtains sufficient stakeholder support.
 
Conclusion
 
In many business situations, the questions asked are as important, if not more important, than the answers given.  This is particularly true in mergers and acquisitions, where many deals fail to create the desired shareholder value for buyers.  Correctly done, M&A is a powerful tool that allows buyers to achieve growth, position themselves for the future, and create value for their shareholders. 
 
Trout Creek Consulting’s Actionable Strategy and Immediate Impact Workshops can help clients ask and answer the right questions.

By Hal Craig, Trout Creek Consulting, LLC

The questions asked are often as important as the answers given.  The right questions elicit data, stimulate thought, uncover insights, reduce prevarication, and lead to better decisions.  This is the first of two parts about questions to ask before making a merger or acquisition.  
 
According to The Wall Street Journal and data from Dealogic (June 14, 2018 article), year-to-date M&A deal announcements, at $2.1 trillion, are up 56% from the comparable period in 2017.  Total 2018 deal activity could concievably break 2007’s record of $4.3 trillion.  LBO firms have more than $1 trillion in cash to invest.  The average leverage for 2018 buyouts is 6.36x EBITDA, this is approaching the modern high of 6.49x EBITDA set in 2007.  The S&P 500’s trailing twelve month PE, based on reported earnings, of 25 has expanded by ~50% since 2013 while US GDP has increased by ~21% over that same period.  This is obviously above the S&P 500’s historical mean PE of ~16. 
 
In summary, M&A activity, leverage, and valuations are up with plenty of money on the sidelines looking for deals.  These points suggest that it is time to revisit a few questions that acquisition-minded executives and boards should ask themselves.
 
I hope that you find the following brief list of M&A-related questions useful.  They are intentionally structured in a digital, yes/no format to facilitate their use in a check-list should the reader so desire. 
 
M&A questions to ask and answer before doing a deal:
 
Do we know why we are interested in this target?  For the strategic buyer, the answers to this question include access to raw materials or markets, an enhanced pipeline of new products, additional manufacturing capacity years ahead of what the permitting and construction process will allow, the synergies of consolidating redundant capabilities, alignment with macro trends and unmet needs, diversifying away from declining or less attractive existing business lines, securing capabilities that enable future growth, and defensive moves given a changing competitor-customer dynamic.  For the financial buyer, the answers to this question include taking advantage of an underleveraged balance sheet, a sum-of-the-parts is greater-than-the-whole valuation, backing a business with solid management and growth prospects that has been ignored by its current owner, and the turnaround upside of bringing operational improvements to a poorly-managed company.  Carefully answering this question is important because it is possible, in a bidding war and the subsequent pursuit of synergies, to destroy the key reasons that made the target attractive in the first place! 
 
Do we know (a) how we will make money from this acquisition, (b) how much money we will make, and (c) when we will make this money?  Buyers should know, in some detail, how they will make money from an acquisition before they submit their first round bid.  They should be able to convincingly state the value drivers that need to be enabled, nourished, and maintained and the value destroyers that need to be minimized or stopped.  Buyers should also define their “walk-away” price.  This last point is crucial to ensuring that the buyer doesn’t get caught up in the acquisition process, overpay, and then face the common “Winner’s Curse” where the acquisition doesn’t create the hoped for value.  “When” the money will be made is key as buyers search for a timeframe to make money along the continuum between “accretive next quarter with a 1 year payback” and “all the money is in the terminal value.”
 
Do we understand the impact that macroeconomic and geopolitical factors will have on the target and our merged business?  It’s important to understand, or at least have a sense of, whether these big-picture-beyond-our-control factors will have a positive, negative, or neutral impact on the target and the merged business.  Areas to check include exports, imports, supply chain, debt financing, the ability of customers / consumers to purchase your products and services, your ability to provide certain offerings and maintain / change / improve your overall value proposition, and the impact on competitive intensity.  It’s also important to think about the near, mid, and long term aspect if these factors persist.  Macroeconomic and geopolitical factors to assess include:

• Tariffs and trade wars (e.g., the current US disputes with China, Canada, Mexico, and the EU; evolving trade agreements that don’t include the US)
  
  
• Rising interest rates
  
  
• Business performance throughout the economic cycle (there will be another recession sometime)
  
  
• Rising and falling energy costs

 
Do we understand the impact that digital will have?  Will the impact be positive, negative, or neutral?  Do we have a strategy to compete in the digital world?  Digital in this context includes AI (artificial intelligence), data analytics, the Internet of Things, and how digital will impact, enable, and change supply chains, value propositions (e.g., direct-to-consumer home delivery, shopping via apps versus shopping in brick-and-mortar stores), customer engagement, customer behavior and expectations, competitors including new entrants, innovation, health, smart homes and cities, and other areas.

Have we considered the impact that Amazon might have?  Is Amazon a competitor or channel partner now or in the foreseeable future?  Will this have a positive, negative, or neutral impact on the target and our merged business? 
 
Please check back for Part 2 which will cover cultural fit among other questions.