One plus one makes three: this equation is the special alchemy of an acquisition. The key objective behind buying a company is to create value for shareholders over and above that of the sum of the two companies. Two companies together are more valuable than two separate companies – at least, that’s the reasoning behind acquisitions.

Big mergers and acquisitions make for splashy headlines, but do they make financial and strategic sense? Executives, board members, and investors are wise to be skeptical. As high-profile failures have demonstrated, big deals can destroy significant value for shareholders. The difference between success and failure often comes down to strategies and one of the most important factors being where companies have a clear, compelling reason to take on a big deal’s risks and integration complexity.

Making an acquisition work is an acid test for any chief executive officer (CEO). A key problem is a tendency for combining companies to pay too little attention to revenue growth and to focus almost exclusively on cost synergies as markets frequently demand rapid results. Companies that serve their existing and acquired customers better by prudently integrating business models, aggregating products, and services, and providing secure accesses to the existing information technology platforms are in superior positions to balance revenue growth with cost reductions.

Hence it of utter importance to have certain points noted while making a big acquisition successful.

A lot is “STILL DUE” after Due Diligence

In the hectic pace of integration after deal closes, many integration managers adopt the synergy estimates calculated by the pre-deal due diligence team as performance targets. Yet how much a company pays for a deal isn’t necessarily the same as it’s worth. Even the best due-diligence efforts can be only so good. They typically focus on whether expected cost synergies alone can justify a deal, placing more emphasis on how much could be saved by eliminating redundant functions, facilities, people, or products and much less on how much can be gained through growth.

In fact, those companies that reassess their synergy targets after a deal closes seem to achieve higher synergies than those that don’t. The successful acquirers reset their aspirations by identifying opportunities to transform the business and then building a fact base to support the pre-acquisition opportunities. Sometimes they came from fundamental changes to operations or from providing customers with new products or services that hadn’t come up in due diligence— or weren’t investigated, as a result of limited time or information access.

For e.g. after the acquisition of Corus which was 5 times their capacity, TATA Steel ran into trouble because of a unpredicted recession in the market at the time of execution of the deal. Even though there were grounds that could be achieved on synergies terms on a low-cost model of TATA Steel and strong R&D facility of Corus the deal ran into trouble because of wrong timing though unforeseen and hence paid the price.

Cultural Differences

Another major issue that has an adverse effect on the success & failure of the deal is the cultural difference and it increases from a local acquisition to an international acquisition. It’s not uncommon for an acquiring company to assert control over the culture of the acquired one—if it is small. But many executives have been reluctant to do so with really large deals, taking instead a merger-of-equals posture or one purporting to adopt the best of each company’s culture. But when the acquirer tries to exert their culture over the target company it can send out wrong signals which can have devastating effects like the best of talents of the target moving away from the company to changing loyalty of the existing customers.

Instead of imposing their culture it is better to study each other’s culture and adopt the best of practices that are with either company. In this way, one is able to give a justification of bringing in and implementing their culture.

For e.g. – A case of acquisition of Cadbury by Kraft last year can be well understood in this light. Cadbury, one of the world’s biggest and well-known brand in FMCG sector was very aggressive in its marketing and distribution across the globe in contrast to Kraft which had its focus more towards U.S market. On acquisition, Kraft management decided not to change the brand name of Cadbury and decided to continue with the same name and logo.

Another example where the deal drowned into cold water was the mega-merger of two automobile powerhouses i.e. Daimler-Benz AG “merged” with the American automobile manufacturer Chrysler Corporation, and formed DaimlerChrysler AG. The merger didn’t last for more than a decade because of various reasons but the major one was the cultural difference where the shareholders were made to believe that it was a ‘merger of equals’ which eventually turned to be Daimler-Benz takeover of Chrysler.

Leadership matters

It has been seen in the past that on an acquisition of companies many a time the acquirer retains the important position in the hand of the target company’s management for a period of time to fully understand the business and its functioning and build a strong relationship with the other stakeholders of the target entity. Furthermore, it also helps the acquirer gain time to fully study each and every aspect to know the nitty gritty of the running business. This is also done to earn on the goodwill of the existing promoters and to build a strong foundation on the same.

E.g. When Disney acquired UTV last year the Disney management decided to continue with the existing management even continuing with Mr. Ronnie Screwala as the CEO of the company for the next 3 years.

The Invisible CEO

When the deal is going through especially the bigger ones’ it becomes eminent that to bring CEO’s into picture only when important issues are to be addressed as they cannot be involved in each and every decision. Hence it is important that the there are managers at senior levels who would be in-charge of the activities while the acquisition is taking place. This requires delegating adequate authority and responsibility which requires CEOs to encourage others to think and act imaginatively and acts as invisible CEO’s and taking full responsibility for their actions. This would show their dedication and willingness towards their work which is essential ingredients for a successful team. This approach is critical to uncovering transformational synergies. CEOs should thus create a risk-free environment for generating and evaluating ideas and bring in outside experts (including academics, private-equity partners, and consultants) who can foster creativity.

Principles needed to maximize Synergy level

Basic areas need to be focused post acquisition for integration of the acquired company with the acquirer for creating value for shareholders of both the companies-

  1. Business integration: Business integration comes at the first stage of integration. Here the best of two company’s management practices are adopted while preserving the independence of the experienced managers of the acquired company. At the same time, the practices not appropriate are done away with. At the same time, the focus is on cultural integration. Once this is done the focus is on providing services to existing and new clients in a better manner.
  1. Product & service aggregation: Once integration at a top and the managerial level is done the next step is to consolidate operations and services to achieve the desired goal i.e. revenue jump or cost reduction.
  1. Technology aggregation: As the world is becoming digital it becomes necessary for companies to focus on technology integration as well. Hence it becomes important to develop a common IT infrastructure going ahead.

For e.g. in a deal involving airline major Kingfisher acquiring low-cost airline company, Deccan Airways in a bid to expand a market reach by increasing the market share and also bringing the low-cost technology management to its services. They failed to achieve the desired output and hence in a recent announcement last year Kingfisher decided to close down its low-cost airline services. The main reason for this disappointment could be that the company tried to quickly achieve the market share with the acquisition without waiting for the target segment to grow to the desired level.

“How Many Deals have you Pocketed?”

Many a time, companies just go on acquiring other companies to become the market leader by wiping out the competitors from the market. The bigger a company gets, the harder it is to keep up with investors’ expectations for growth. Mergers and acquisitions are essential, but how big deals need to be—and how frequent? Because a single deal that might double the market capitalization of a small company will scarcely register for a large one, many big companies pursue ever-larger deals—or a whole lot of smaller ones. Does either of those strategies more often lead to success? This can be understood by a study done by McKinsey & Company on deals done in the past decade and interesting facts were put forward.

(Source- Mckinsey Quarterly)

Roadmap-for-Success

The above figure shows that highest returns to shareholders were achieved with fewer than 15 deals and in course acquired more than 18% of market capitalization. Hence it is not about completing a bulk of deals to acquire market share and generate value for the shareholders.

For e.g. – At the start of last decade, TATA group was a much bigger group than Reliance. In due course, TATA made a number of acquisitions as compared to Reliance which was hardly in the news for any acquisition. And at the end of the decade, Reliance became a bigger group then TATA.

Conclusion

Most companies make acquisitions grow because the core business is not growing enough, while the CEO is under pressure to reinvest cash from operations. Therefore, is M&A the best answer? But in many cases, it has shown that big acquisitions have not been able to create value to the level of expectations of the companies and their shareholders. In fact, many of the top performing companies across the globe are one that had made been more or less slow in terms of acquisitions in the past. These companies have been exceptional performers and they maintained P/E multiple consistently higher than the market and their competitors. There are various reasons for that as discussed in the article but one of the major reasons being a lack of real purpose of doing M&A.

So, are acquisitions a bad idea to grow a company? Not at all. What it means is that consolidating two companies’ business, products, cultures, services, and technology is complex and time-consuming. Companies come together for many reasons – to achieve economies of scale, to increase profitability to get hold over the competition etc. And because it is time-consuming hence it becomes important to identify areas where CEO’s needs to keep focus leaving the rest in the hands of the other senior management. And also the time factor comes into play while considering the projections made while due-diligence, post acquisition.

Yet, while there may be total clarity of intent in the design of mergers and acquisitions, the outcomes are often unpredictable. That is because strategies are ideas – pure with clear lines. But, companies are living things – complex and cumbersome. Senior executives structuring the deals forget they are integrating cultures and people. Star performers often leave. Some good people under-perform. By actively involving representatives of all the key interest groups in mapping out a consolidation strategy, senior executives can better meet the needs and expectations of customers while at the same time vigorously pursuing the anticipated synergies of the acquisition.

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Mergers and acquisitions have become an essential and integral part of corporate strategy and will gain more significance as competition intensifies and companies move up the growth curve. In fact, M&A should grow in magnitude across the scale regardless of type and size of corporate from the blue chips to S&M companies…… Know More.

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Family-owned companies often divest for various reasons including next generation not interested in carrying on the said business or to fund retirement etc. Carving out a business is often more complex than acquiring one and selling a carve-out business requires a greater level of planning, effort, and resources. HU Consultancy has extensive experience…… Know More.

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Joint Venture is the right option for inorganic growth when both the parties to the transaction have unique strength and want to come together to leverage the strength of each other without affecting their present structure or ownership. With the advent of globalization and increasing business opportunities,…… Know More.

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Financial re-engineering involves the radical redesign of core business processes to achieve dramatic improvements in return on investments. The company, may, in the long run, have some assets which are surplus or not being utilized by the core business. The effective utilization of those assets / funds can increase value for stakeholders substantially. HU Consultancy offers financial re-engineering and debt restructuring …… Know More.

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