As M&A is gaining popularity with Russian businesses, questions regarding its effectiveness are becoming critical for many business owners. What are the motives behind acquisitions, how successful are they and what determines the success?
By far, not all companies involved in acquisitions have "a well-thought strategy" explaining why they chose that vehicle for growth and how exactly value will be created. In our experience, business owners name four basic motives for M&As: accelerate business growth, gain scale and consolidate, protect business against risks, use momentum to trade. In pursuing these objectives, companies do not necessarily create economic value. There are at least three areas where they struggle: 1) select the right motives for M&A, 2) evaluate M&A attractiveness in the context of a broader range of options, and 3) check strategy against key success factors.
Select the right motives for M&A
Value-creation should be at the heart of M&A decisions. However obvious it may sound, it is far from being so in many transactions. To create value in M&A transaction, the buyer must ensure that the price paid to the seller does not exceed its value to the buyer. The buyer can achieve it in two ways: pay for the asset less than its stand-alone value or capture synergies in access of the premium paid. Why don't companies follow the value-creating approach? There are several reasons:
1) "winner's curse" - a buyer may be caught up in a competitive bidding process and just pays too much
2) "escalation of momentum" - this is a psychological state where a buyer has invested too much time, energy and resources and just can't walk away from the deal
3) "strategic reasons" - a buyer wants to do a deal because he is convinced of the strategic reasons regardless of what "the numbers say". In this case, the numbers are crafted to justify the deal.
4) "implementation failure" - a buyer underestimates the difficulties involved in integrating the firms.
5) "estimate errors" - wrong assumptions and value estimates
For example, a large holding wanted to consolidate its industry by buying up key players. Its key motive was to be number one! The company assumed that since the industry had low multiples compared to developed markets, it could create value by making cheap acquisitions and the multiples would go up in the future somehow. Fundamental analysis showed that the industry had falling demand, access capacity and low profitability. The key industry drivers in developed market were government subsidies, advanced customer needs for value added products and proximity to consumer markets. None of these factors was present in the client's industry at the moment. To add the low quality of targets' assets requiring upgrade, any investment in this strategy would generate negative cash flow in subsequent 4-5 years and lead to bankruptcy.
Evaluate M&A attractiveness in the context of a broader range of options
Since "value" is a relative notion, the effectiveness of a company's M&A decision should be valued in comparison to other options. Because M&A opportunities often pop up unexpected and require quick decisions, many companies don't have time to properly evaluate other options available to them. Thus, they overlook the fact that many acquisitions in non-core businesses may lead to the following problems: 1) masking problems in core businesses through cross-subsidization; 2) losing competitiveness in acquired non-core business to more professional players; 3) exhausting resources needed for further growth.
For example, one manufacturing company that had low margin products and topped production capacity decided to acquire warehouses. Its goal was to improve profitability by charging below-the-market storage rates and to build forward stocks for high seasons. As a result, the expenses were not reduced significantly since other unexpected expenses were added. Return On Invested Capital dropped considerably because of an increased asset base and working capital. Growth in core business was impeded by lack of capital. Alternatively, the company could have invested in technology upgrade or product development to increase overall profitability. Or it could have shifted warehousing to lower-cost regions. Or it could have adjusted its incentive system for distributors to focus them on increasing profit and building forward stock, not just volume. Or it could have acquired another player in the core business to solve the capacity problem. Finally, it could have considered back leasing as a way to free up the capital from the warehouses. Because of pressure in M&A decision, the company had no time to understand its true issues and evaluate other options. Knowing options also increases buyer's leverage in M&A negotiations by giving him an additional benchmark.
Check strategy against key success factors
The success of any M&A strategy hinges on a company's ability to implement it. If an acquirer's strategy is to become one of the dominant players in the industry, the factors for success will include ability to restructure the target, realize cross synergies (in branding, overhead, purchasing etc.), manage cash flow, retain key employees, chose the right pace of consolidation.
If an acquirer's strategy is to create value through consolidation and subsequent sale to a multinational competitor, the following factors should be taken into account: compliance with a multinational's standards, strategic location of production sites, large capacity plants, speed of consolidation, and flexibility in getting value from assets. Brand may or may not be that important.
One company made quick acquisitions of cheap worn-out assets in hope to shortly resell them to a strategic investor who, it knew, was planning consolidation. As a result, the investor changed its strategy and the company was stuck with the assets which were generating negative cash flow. It used debt to cover the financial hole till its interest coverage came to zero. It finally had to divest the assets at a loss. The key to success here would have been the understanding of true hidden value of the assets for different categories of investors, and have a more diversified pool of potential investors. An often time, to walk away from a transaction is the best option of all.
Построение системы сервиса для повышения лояльности клиентов. Продвинутая международная практика
Международный семинар предназначен для тех, кто заинтересован в росте бизнеса и увеличении продаж за счет повышения лояльности клиентов. Многолетний опыт работы бизнес-тренера в ведущих компаниях разных стран позволит вам ознакомиться с реальными программами улучшения сервиса, которые привели к ощутимому росту компаний. Под руководством международного эксперта вы выполните практические упражнения по применению презентуемых методик к своему бизнесу, что поможет вам обрести ощутимые конкурентные преимущества
13-14 февраля 201424-25 июля 2014, 20-21 ноября 2014
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