An important factor in the success of any merger or acquisition is the level of due diligence carried out in advance to help validate the terms and value of the potential transaction. This is something that can only be achieved when the strategic rationale behind a deal has been evaluated and assessed.
As the economy begins to recover, a natural state of optimism is returning to the UK’s mergers and acquisitions market. It is realistic to expect deal levels to rise as opportunity, rather than threat becomes the focus for ambitious organisations looking to grow. Consequently, we can expect due diligence to be a key activity in 2014.
Due diligence is about substantiating what you have been told and uncovering inherent risks within the target company. Executives will usually trust their financial and legal experts to ratify those aspects of the deal and find the right initial price, but the true value of a deal can only be understood when a longer-term, strategic perspective is applied.
There are two fundamental questions to ask yourself:
1. Is the deal commercially attractive?
2. Are we capable of realising the value set out in the rationale?
Each of these questions opens up a number of key considerations relevant to a proposed transaction, so let’s explore them individually.
1. Is the deal commercially attractive?
Of course, ‘commercially attractive’ can mean many things. Here are just a few checks to run:
- If the deal is ‘in market’, what is the competitive position of the two organisations combined? Will it invite new entrants? How will it be perceived by key clients and customers?
- If the deal is ‘out of market’ does the acquisition provide the organisation with a sufficient foothold in the market to exploit the value of the deal? What is the market perception of the target organisation?
- How will the move be greeted by customers and stakeholders of the acquiring organisation? Simple management tools can establish this, but importantly they must be completed without bias.
2. Are we capable of realising the value set out in the rationale?
Realising value is largely down to the management team of both organisations and anticipated synergies. This requires a thorough and objective investigation which is often best viewed with an external perspective.
- Is the management team of the acquisition suitable for realising the strategic rationale? This will of course impact on the cost of the deal, but also the anticipated timescale. Furthermore, competitors would certainly view this period as one ripe for picking off clients and customers, so managing this risk is critically important.
- Are anticipated synergies valid? eBay’s acquisition of Skype was a failure because IT integration between the two was so problematic. It led to a $500m capital loss on the transaction for eBay, without factoring in the project costs to address the problems. By prioritising the supposed most valuable aspects of the acquisition and verifying anticipated synergies, risks can be uncovered, evaluated and mitigated against.
Ultimately, strategic due diligence counterbalances against institutionalised thinking and should enable a price to be set that considers the opportunity versus integration risk and execution potential.
An organisation’s record for delivering successful deals in the past cannot be taken as a guarantee, as no two deals are the same. This is one reason why executives are increasingly looking at external sources to help assess the viability of a deal.
This is our second blog on strategic due diligence, you can view the first by clicking here.