Mergers & Acquisitions Pay-off Optimization

The Commercial Due Diligence Imperative

Christophe Robinet

• Publisher: Books on Demand
• Year: 2014
• Print ISBN:
  9782322036301
• Edition: 1
• eBook ISBN:
  9782322029228
• Topic: Business
• Subtopic: Business General
• Index: Business

A short pragmatic book about commercial due diligence, i.e. marketing in deal preparation. ---"A MUST READ FOR ALL EXPERTS INVOLVED IN PRIVATE EQUITY AND M&As"(*) ---The book unveils a unique tool: MOSAICS to easily structure market data and articulate analytical tools. It provides a relevant synthesis of marketing fundamentals. The latter and the MOSAICS tool make this work of interest for M&A experts and beyond, for any Marketer. The book features a meaningful analysis of the practice while showing how commercial due diligence can enhance M&A pay-off.---"A WAKE-UP CALL FOR THE BUSINESS WORLD"(*)---One may challenge the interest for real life of an academic research. Well, the answer comes from the business world itself: the original manuscript was awarded the yearly Prize by ARFA (the French Association of M&A professionals) and received support from seasoned practitioners (*). ---(*) Refer to the quotes on the fourth cover and the foreword.---TARGETED AUDIENCE: Financial executives, corporate strategy executives, management consulting and education (business schools'professors & students)---KEY WORDS: M&A, mergers and acquisitions, pay-off, ROI, investment, value creation, deal value, deal preparation, dataroom, data room, commercial due diligence, commercial analysis, strategy, analytical tools, matrix, Ansoff matrix, BCG matrix, GE matrix, KSF, key success factor, Ohmae 3C, Porter five forces, 8Ps Krippendorf, SWOT, strategic marketing, market analysis, market intelligence, knowledge management, risk analysis, methodology, mosaics model, management consulting, strategy consulting, private equity, PE, investor, venture capitalist, corporate venture, corporate fund, investment bank.---SOME AUTHORS IN BIBLIOGRAPHY: R.Bruner, A.Chernev, P.Howson, R.S.Kaplan, K.L.Keller, P.Kotler, M.McDonald, P.Millier, A.Reed Lajoux.---EBOOK OR PAPERBACK: The e-book features all figures and graphs in color whereas they appear in grey levels in the paper version.

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INTRODUCTION

1.1BACKGROUND

Despite the on-going economic crisis, mergers & acquisitions activity worldwide globally increases since 2009; the latter was a nightmare, with a revenue about half of the record year 2007. For the year 2013, Bloomberg reported cumulative value of M&A deals globally at US$ 2.33 trillion with 27 890 operations^[46]. In April 2014, Dealogic, another deal tracker, reported the value of M&A reached US$ 804 billion for the sole January-March 2014 period^[47].

Figure 1.1 M&A deals 2007 to 2013 - cumulated value (US$ trillion) and number of deals Source: Dealogic^[47], 2014

Back in 2011, BCG came along with a report^[45] recommending acquirers to get ready and act at the beginning of the probable “new M&A wave”. Although the optimistic forecast did not come true, the recommendation they stated in 2011 to prospective acquirers to heed lessons from the past, remains of interest:

“The timing of acquisitions, the selection of targets, and the management of the whole M&A process are critical factors in creating value through M&A.”

Indeed, value creation is unluckily not a systematic outcome of mergers and acquisitions.

In his referential book “Applied Mergers & Acquisitions”^[2], M&A guru R.F.Bruner revisits the outcome of 14 informal surveys and 120 scientific studies about M&A results (over the past 20 years). He challenges the results of some of them, and tends to classify them between “M&A does pay” and “M&A does not pay”. He eventually states his own position as “M&A does pay, but”. His explanation of the general disappointment is the following:

“The outcomes of most M&A transactions are hardly consistent with optimistic expectations. Synergies, efficiencies and value creating growth seem hard to obtain (…) My advice to practitioners is to be coldly realistic. Structure your deals very carefully. Avoid overpaying.”

Statistic results tend to show a global improvement. A research led by Professor Dr Andreas Bausch at Justus Liebig University Giessen (DE) for Accenture consulting firm, issued in the “Phoenix Report” in April 2011, showed that half of mergers and acquisitions achieve success compared to a typical one-third ratio 15 years ago^{[38] [25]}.

“This means companies are becoming better at targeting and integrating their acquisitions. It also suggests that there is still tremendous opportunity for companies to further improve the outcome of their M&A activities.”

What could then be improved?

When thinking of the many scientific studies on M&A, “failures” mostly related to execution phase, a minority of them was dealing with preparation phase.

However, M&A is a whole; splitting in absolute way preacquisition and post-acquisition issues is questionable since they are interconnected.

For that matter, the above advices of BCG or Bruner mention the crucial need to “manage the transaction” or “structure the deal” without splitting the two phases.

This is confirmed by an interesting study led by Dr Thomas Straub, from HEC of University of Geneva (CH), issued in 2006 under the title: “Reasons for frequent failure in M&As”^[25].

Using four statistical methods, the author shows that M&A performance is a multi-dimensional function. For a successful deal, three KSF are to be taken in account: (i) strategic logic, (ii) organisational integration and (iii) financial perspective, all together relying on twelve determinants.

Interestingly, among the three determinants of the financial perspective stand the bidding process and the due diligence, while among the six determinants of the strategic logic are: market similarities, market complemantarities and market power...

Before going further on the market-related items, let’s consider another approach: risk analysis.

In this regard, financial risks always come up first, systematically assessed by complex modeling tools. They are pivotal, but might sometimes be the “tree that hides the forest”. Although some of them are purely financial (such as the structure and level of debt), several are the “financial translation” of risks of another nature. In other words, beyond and underneath financial risks lie many non-financial risks. It is crucial to identify and assess them, especially to fix the acquisition price.

Among these non-financial risks stand the market-related risks. A study published in 2009 by Allenström and Njurell^[35] compiled the outcome of 54 scientific publications about M&A successes and failures KSF to map the risk pattern. After correlating 61 parameters, they ended-up showing an obvious preponderance of the market-related risks, in the sense almost any business characteristics (e.g. geographic location, firm size, governance… or business phase) were correlated to the market.

In other words, no other risk category than market-related risks presented as many correlations to business characteristics, even “universal” risk factors such as operations, technology or human resources.

Although the study concerned operations in ICT industry, I believe its outcome is meaningful and inspiring for other industries.

To illustrate what market-related risks can be, let’s consider two examples.

Cognex, a US-headquartered business operating in the machine vision arena, has excellent financial records with 2013 revenue of US$ 353 million. The company has built its leadership position both via organic growth and via acquisitions, with more than ten operations. One of them turned out to be a failure.

In 2006, Cognex attempted to enter automative safety solutions with the acquisition of a player in the lane departure warning systems. Two years later, Cognex was giving-up this diversification. The reasons were (i) car and truck manufacturers want to work exclusively with their existing Tier One suppliers and (ii) the latter required access to source code, with which Cognex could not agree.

Here is a very honest statement by Dr Shillman, their remarkable Founder and CEO, in a press release dated July, 2nd. 2008.

“Cognex invested in a business that appeared to have a very large market potential. Unfortunately, as we got more experience with that business, it became clear that it did not fit Cognex’s profitable business model.”

Luckily, the limited size of the deal (estimated at US$ 3 million) and the ability to re-sell the business did not result in a life threatening impact for Cognex. However, it looks like such waste of R&D effort, time and money, could have been avoided by sharper upstream investigation on the targeted market requirements, besides the challenging technology and performancerelated issues… in a nutshell, by implementing true commercial due diligence.

Literature reports the far more dramatic case of Ferranti, a publicly listed defense electronics company with sales of UK£ 800 million… whose acquisition of ISC in 1987 for US$ 700 million eventually led to bankruptcy.

The target firm later appeared to have boosted its profits by creating US$ 1 billion revenue of fictitious contracts and transactions through offshore companies!

The root cause of that disaster was failing financial due diligence (checking customer referencing) but moreover… lack of commercial due diligence (double-checking the future of business relationships with key accounts).

The two examples above are from the B2B world, but their learnings are of course universal. Sam Walton, founder of Wal-Mart^[3], thus B2C, supports the same underlying idea:

“There is only one boss: the customer. And he can fire everybody in the company from the chairman on down, simply by spending his money somewhere else.”

Though powerful and strictly codified, financial due diligence, as well as legal due diligence, is overall limited. Such questions about market and clients are to be addressed within the commercial due diligence, which is the object of this book.

1.2MAIN RESEARCH QUESTIONS

The value of any business lies in its future profit, which for a significant part depends on its ability to successfully serve relevant market segments.

It thus really makes sense for the acquirer to conduct specific due diligence to assess the key parameters feeding the financial valuation.

This leads us to investigating:

1. what does commercial due diligence consist of?
2. what methodological tools does literature provide to candidate buyers for commercial due diligence?
3. what varies in the practice of commercial due diligence professionals (namely consultancy firms and various categories of buyers)?

IN A NUTSHELL

This part introduces three questions: what is commercial due diligence? what is the theory? what is the practice? To address them properly downstream in the book, this chapter defines a clear perimeter starting with mergers & acquisitions and due diligence.

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KEY CONCEPTS TO FRAME THE RESEARCH

2.1WHAT MERGERS AND ACQUISITIONS REFER TO

2.1.1. MERGERS & ACQUISITIONS GENERAL DEFINITION

Very simply, mergers & acquisitions, M&A for short, are variations on the same theme: buying and selling of companies.

In the strictest sense, a merger is a combination of entities where each of ...

Table of contents

• DEDICATION
• TABLE OF CONTENTS
• FOREWORD
• HOW TO GET THE BEST OUT OF THIS BOOK
• AKNOWLEDGEMENTS
• LIST OF FIGURES AND TABLES
• 1. INTRODUCTION
• 2. KEY CONCEPTS TO FRAME THE RESEARCH
• 3 RESEARCH METHODOLOGY
• 4 COMMERCIAL DUE DILIGENCE IN LITERATURE
• 5. FIELD OBSERVATION
• 6. OPEN DISCUSSION ON THE PRACTICE IN COMMERCIAL DUE DILIGENCE
• 7. CONCLUSION
• 8. EXECUTIVE SUMMARY
• R. REFERENCES
• A. ANNEXES
• Copyright