Last year was a very respectable one for M&A. Approximately $3.7 trillion of global deals were announced, according to Dealogic. While deal numbers declined last year, 2016 was still the third most active on record. However, the number of deals that were announced and abandoned last year was strangely high and was the largest in terms of volume since the recent financial crisis. Broken deals amounted to almost one quarter of the deals announced in 2016.
A few deals, such as Halliburton’s $35 billion acquisition of Baker Hughes, were blocked by regulators. Others, such as Mondelez International’s proposed takeover of Hershey’s, floundered because of valuation issues and a complex shareholder structure. According to a recent KPMG survey of almost 100 deal makers, their uncompleted deals were primarily the result of valuation issues (36 percent), followed by a loss due to a competitive bidding situation (22 percent), and financial or operational issues revealed during due diligence (both 11 percent). Regulatory issues were cited as responsible for only 4 percent of failed deals.
While a host of factors can crater an announced deal, integrating leading practices into the deal process can increase a company’s chances of success.
Find the ideal target
One of the most important steps in crafting a successful M&A deal is finding a target that furthers a company’s long-term strategic goals. Once the acquirer has developed its strategic growth plan, the hunt for the right target begins. After identifying possible targets, management needs to dig deeper and understand if acquiring the targets under consideration will really enable new, sustainable growth. Business transformation through M&A should also merge strategy with execution and finding the right target greatly improves the chances that a deal will make it to the finish line.
Understand the target’s long-term value
Valuation issues are one of the most challenging deal points for both buyers and sellers, especially when equity markets are frothy. Making accurate future profit and revenue projections is notoriously difficult. Even in the best of times, deal excitement can color decision making and assumptions about future customer behavior may have widely varying inputs. Unforeseen economic and political events can wreak havoc on business expectations and new technologies and business models can completely undermine projections.
What can an acquirer do to minimize valuation issues?
Acquirers need to have a solid understanding of both the existing market and the possible future market and how different scenarios might affect both. Will the target be able to create new opportunities under multiple scenarios? Does the target own intellectual property that is particularly necessary for the acquirer’s future plans? If so, then a higher multiple might be justified and the greater risk is not the price, but the possibility that the deal will not be completed. If the target does not add anything unique, then even if it is a good strategic fit, a lower multiple may be justified.
Bidding wars are never the ideal way to complete a transaction. Acquirers are advised to understand just how valuable a target potentially is to both itself and to other suitors. Even in this situation, buyers need to have a disciplined approach which may require them to walk away from a deal in which the price cannot reasonably be justified even under the most optimistic scenario. Conversely, certain targets may be so crucial that entering and winning a bidding war does make sense.
Another reason that a deal may flounder is because of surprises that are revealed during due diligence, sometimes towards the end of the process. Financial, tax, and business due diligence is always a key priority that must be completed as early as possible and with a high level of skill and thoroughness. Today’s highly technological and quickly evolving marketplace requires companies to delve ever deeper into the target’s data. A buyer should analyze the details of how a deal could help it enter into new markets and appeal to new customers. But it also needs to understand a target’s existing capabilities and infrastructure.
Data analytics can be a very useful tool in helping to test real-time assumptions and develop dynamic business models based on multiple micro- and macroeconomic scenarios. By using those tools, an acquirer should have a better idea concerning which opex and capex synergies are most achievable and what type of time table is realistic. Similarly, a sophisticated analysis will help buyers to understand just how significant integration challenges and costs will be if the deal is completed.
In the KPMG survey, only 4 percent of respondents cited regulatory issues as the reason they abandoned a deal. However, a changing regulatory environment is always one of the many issues that may affect the attractiveness of a deal. Companies are advised to be aware of how shifting regulatory sentiment in Washington may make any particular deal more or less attractive. As noted, strategic fit, long-term growth prospects, and financial and business health remain due diligence priorities. But industry-specific regulations (both existing and potential) should be part of an acquirer’s analysis.
Announcing and then abandoning a deal is not a scenario that most companies relish.(Although it is preferable to moving ahead with a deal that no longer makes sense). To increase the chances of completing a deal with long-term positive prospects, acquirers are advised to focus on several leading practices. They need to find the right target, understand its value and conduct exceptional due diligence to test all key assumptions and projections. Buyers should also be aware of the relevant regulatory environment.
M&A is one of the most powerful mechanisms a business can use to quickly increase its scope and relevance. By analyzing the most important issues early on, an acquirer can increase the chances that it has found the right target, is paying the right price, and completes the deal with the right understanding of the target’s benefits and challenges.