Recap: When dealing with acquisitions and alliances, we seek to create fit and synergies between firms’ activities; the evaluation depends on the motive behind an alliance or acquisition. What are the type of synergies?
- Cost-reducing synergies
> Economies of scale and scope
> Subadditive
> Examples: Consolidation, Combination - Revenue-enhancing synergies
> Superadditive
> Examples: Customization, Connection
Two methods to grow, internal and external. Examples?
- Organic: Using company’s own resources by:
> Expanding
> Rejuvenating (fresh perspective)
> Diversifying - Inorganic: Borrowing/buying resources through:
> Mergers & Acquisitions
> Alliances
> Joint Ventures
What is the diversification test, and the corresponding five step approach?
Diversification test: Vm(AB) - Cm(B) > V(A)
Approach:
1. Identify synergies to being in new + old business
2. Identify resource gaps
3. Identify best INORGANIC growth candidates who can fill the gap
4. Identify best mode for best INORGANIC growth candidates and estimate value.
5. Estimate ORGANIC growth value and compare.
The reasons for mergers and acquisitions, and alliances, FAILING lie in two main areas
- Results
> Bad financial results
> No value creation; value destruction even
> Unequal division across partners, or after merging. - Process
> Insufficient strategic, organizational and/or cultural fit
> Lack of skills to arrive at a good deal and to manage conflict
> Integration and management of process below par or incomplete
> Bad planning
Recap: Dynamic Relational View. Which components?
- Complementary resources (precedes other three)
- Relationship-specific assets
- Effective governance
- Knowledge sharing routines
Above four, contribute to relational rents.
Recap: What is the five-step alliance process?
- Business case & need
- Partner selection
> Partner search
> Partner identification
> Assessing fit - Negotiation & governance
> Assessing value
> Legal issues
> Closing deal - Management
> Knowledge transfer
> Trust building
> Conflict resolution - Assessment & evaluation
Recap: What is the five-step acquisition process?
- Business case & need
- Due diligence & target selection
> Analysis
> Justification - Buying decision
> Agreement
> Announcement - Post-acquisition integration
> Level of integration
> Immediate PAI - Assessment & evaluation
Kaul & WU (2016) Framework. What does it entail?
Has to do with the effect on the probability of target being acquired.
- Newness to acquirer of target market (i.e. relatedness) has negative effect on the probability of target being acquired.
- Strength of acquirer’s acquisitions capabilities have a positive effect as moderation on newness to acquirer of target market and manufacturing productivity of target.
- Manufacturing productivity of target (i.e. target’s capability strength) has negative effect on probability of target being acquired.
Central message:
- Acquirers seeking to create value by deploying their existing capabilities will prefer targets with weak capabilities in existing contexts
- Acquirers seeking to create value from acquirer new capabilities will prefer targets with strong capabilities in new (though related) contexts.
- Moreover, they expect that firms with weak acquisition capabilities will limit themselves to acquiring inferior targets in existing markets, and only those with strong acquisition capabilities will pursue targets with superior capabilities and in new markets.
M&A: Different types with different aims. What are different M&A types? (5)
- Overcapacity: Aim to create more efficient operations, gain market share.
- Product/Market extension: Aim to extend a company’s product line.
- Geographical roll out: Aim to remain operating units to remain local while company expands geographically.
- Acquire R&D: Aims to supplement in house R&D to build position quickly.
- Industry convergence: Aim to combine resources form two industries whose boundaries are converging.
Successful mergers and acquisitions are preceded by an extensive due diligence. What are the four categories for these extensive due diligence?
- Financial issues & investments
- Tax, legal & IT issues
Above-mentioned often being done at the beginning and often only areas, but… they’re conditions and DO NOT contribute to the creation of value.
- Organizational & employee capabilities
- Strategy & cultural fit
Above-mentioned often done much less extensively, but… are the only two that contribute to value creation, particularly strategy and culture.
Cultural fit. The concept of cultural (or organizational) fit is much more fuzzy, but in general we should look at two categories, which are:
- Organizational culture
> HR practices and reward systems
> Values
> Organizational structure and decision-making
> Objectives - National culture
> collectivism vs. individualism
> low vs. high power distance
> masculinity vs. femininity
> low vs. high uncertainty avoidance
Culture generally viewed as an obstacle to acquisition success. But, it’s a double edged sword! Cultural distance does impede integration processes as it influences understandability, communication, and employee retention, but at the same time some diversity may also trigger learning.
A Map of Synergies (Framework). Is a continuum, depends on which two dimensions?
- Probability of success (high vs low)
- Time frame (short vs long)
Look up this framework.
Essentials: Those close to the center (high probability of success, short time frame) tend to be cost-saving synergies. Those on the outside are revenue-generating synergies, which require a lot of time and management and are less likely to succeed. In determining your walk-away price, your discount factor for synergies should rise as you move away fromt he center.
It is impossible to determine whether the target should be complementary or similar and what will constitute strategic fit without understanding of the motive of an acquisition. As such, it’s also difficult to define strategic fit - because, “it depends”, on the motive.
Just like internal synergy creation: Assessing similarity of resources is done with purpose in mind.
True!
Target selection, which five questions?
- Why are we really buying? (motivation to acquire)
- What are we really buying?
> Assess the following elements for fit: Customers, competition, cost economics, capabilities. - What is the level and the context of the target’s capabilities?
> Level: how much stronger or weaker are the capabilities as compared to the ones of the acquirer.
> Context (product market, geographical market, technology field etc.): how relevant/new are the capabilities for the acquirer? - Where are the synergies - and the skeletons?
> Assess expected type of synergies and costs associated with achieving them.
> Take into account negative synergies! - What is the target stand alone value and our walk-away price?
Many firms have made many acquisitions have have produced little value. Due diligence too often becomes an exercise in verifying the target’s financial statements rather than conducting a fair analysis of the deal’s strategic logic and the acquirer’s ability to realize value from it. Why is that?
- Managers seldom kill potential acquisitions, even when the deals are deeply flawed.
- Many due diligence processes fail to uncover major problems.
- Firms routinely overestimate the synergies available from their acquisitions.
Successful acquirers view due diligence as much more than an exercise in verifying data. What do they do?
- Go through the numbers deeply and thoroughly
- Put the broader strategic rationale for the acquisition under the microscope
- Look at the business in its entirety, probing for strengths and weaknesses and searching for unreliable assumptions and other flaws in logic.
- Take a highly disciplined and objective approach
- They are prepared to walk away from a deal, even in the very late stages of negotiations.
All successful acquirers build their due diligence process as an investigation into which four basic questions?
- What are we really acquiring?
- What is the target’s stand-alone value?
- Where are the synergies - and the skeletons?
- What’s our walk-away price?
Related to: “What are we really buying?”
When senior executives begin to look at an acquisition, they quickly develop a mental image of the target firm, which shapes the entire deal-making process. An effective due diligence process challenges this mental image. Acquirer must build its own proprietary, bottom-up view of the target and its industry. What is this called?
Strategic due diligence
Related to: “What are we really buying?”
Strategic due diligence entails gather information about the so-called “4Cs of competition”. What are those 4 Cs?
- Customers
- Competitors
- Costs
- Capabilities
Related to: “What are we really buying?”
Effective acquirers systematically test a deal’s strategic logic by organizing their investigations around the four Cs of competition. What are the four steps?
- Get to know the customers: draw a map. Compare target’s customer segments with those of tis competitors.
- Check out the competition: examine target’s industry presence
- Verify cost of economics: Assess whether the benefits of sharing costs with other BUs will outweigh the lack of focus that sharing costs across multiple businesses might introduce (use benchmarking)
- Take stock of capabilities: You’re not just buying a balance sheet, but also capabilities (e.g. management expertise). Involves looking at which organizational structures will enable the firm to implement its strategy most effectively.
Related to: “What’s the target’s stand-alone value”?
What should be rigorously analyzed, and why?
The target’s books! To verify reported numbers. Firms can use a wide range of accounting tricks to buff their numbers.
Related to: “What’s the target’s stand-alone value?”
Firms can use a wide range of accounting tricks to buff their numbers. What are some examples of such tricks?
- Stuffing distribution channels to inflate sales projections
- Using overoptimistic projections to inflate the expected ROI
- Disguising the head count of cost centers by decentralizing functions so you never see the full picture.
- Treating recurring items as extraordinary costs (get them off the balance sheet)
- Exaggerating a website’s potential for being an effective, cheap sales channel.
- Underfunding capital expenditure or sales, general and administrative costs in the periods leading up to a sale to make cash flows look better.
- Encouraging the sales force to boost sales while hiding costs.
Only way to uncover these tricks is to send a due diligence team into the field!
Related to: “Where are the synergies - and the skeletons?”
Why are synergies estimates often untrustworthy?
Managers routinely overestimate the value of cost and revenue synergies and underestimate the difficulty of achieving them.
Related to: “Where are the synergies - and the skeletons?”
The map of synergies distinguishes five categories of synergies based on two dimensions. What are these two dimensions and what are the categories?
Dimensions:
- Probability of success (high vs low)
- Time frame (short vs long)
Results in:
- Eliminating duplicate functions, business activities, and costs -> easiest to achieve.
- Savings realized from cutting shares operations costs (e.g. distribution and sales)
- Savings from facilities rationalization. Typically more difficult to achieve as they can involve significant personnel and regulatory issues.
- Most elusive revenue synergies, staring with sales of existing products through new channels.
- Selling new products through new channels.
Each circle/category offers large rewards, but the farther out the savings or revenues lie, the more difficult they become to achieve and the longer it will take.
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Content M-1: Selection & Synergy35
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Content M-2: Transforming corporate portfolios: Diversification and divestment39
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Content M-3: The role of organization in corporate strategy45
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Content M-4: Creating value externally - Alliance or Acquisition68
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Content M-5: Target selection45
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Content M-6: Post-acquisition integration41
