How to Analyze the Success of Merger and Acquisition:

I recently read the book “The Investment Checklist” by Michael Shearn, one of the very fine books on Value Investment and I would suggest it as a must read for everyone interested in Value Investing. I will separately write my review on the book. The last chapter of the book “Evaluating Merger & Acquisitions” particularly gained my interest. Evaluating M&A success is a core part of the Corporate Development job, so, writing this article to reflect on the key components of analyzing M&A success.

The 6 key questions to analyze to evaluate M&A successes are:

1)???Did Acquisitions Fit into the Core Competencies of the Business?

2)???Did the Management Team Intimately Understand the Business It Is Acquiring?

3)???Did the Business Retain Its Customers After an Acquisition?

4)???Did the Business Retain Its Employees After an Acquisition?

5)???Does Management Have Discipline or Is There a Risk That They Will Overpay?

6)???How was the Acquisition Financed?

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1)???Did Acquisitions Fit into the Core Competencies of the Business?

Acquisitions within the same industry are more likely to be successful than acquisitions outside of the core competency.?This is because the acquiring company will have the knowledge and resources to integrate the acquired company into its existing operations. For example, the acquisition of Compaq by Hewlett-Packard was successful because both companies were in the computer manufacturing industry. Within a year, HP achieved $3.7 billion in annualized savings.

Acquisitions outside of the core competency can be risky if the acquiring company does not have the knowledge or resources to integrate with the acquired company.?The risk is that the company gets distracted with integration and loses focus on its core competence. For example, the acquisition of a catalog vitamin business by Whole Foods Market was unsuccessful because Whole Foods Market realized that their core competence was in retail sales, and they did not have the expertise in catalog sales. Eventually, the vitamin business was liquidated.

Acquisitions outside of the core competency can be a sign that the profitability or sales of the original business are declining or maturing. For example, energy giant Enron at one point controlled large portions of gas and electricity s acquisition of water companies was a sign that its core business in gas and electricity in the US. Then they attempted to corner the market by expanding their broadband capacity and tried to become the world’s largest water company. Eventually, Enron lost billions of dollars in these ventures and began to manipulate accounting numbers leading to bankruptcy in 2001.

?2)???Did the Management Team Intimately Understand the Business It Is Acquiring?

?Acquisitions of related businesses are more likely to be successful than acquisitions of unrelated businesses.?This is because the acquiring company will have the knowledge and resources to integrate the acquired company into its existing operations. For example, Danaher is a conglomerate that has grown mainly through acquisitions. Danaher's core businesses are in biotechnology, life sciences, diagnostics, and environmental and applied technologies. The company has a history of acquiring businesses that are related to its core businesses. This has allowed Danaher to reduce the risks associated with acquisitions and achieve significant growth. Before Danaher acquires a company, it conducts extensive research to understand the target company's operations and its market. The company also tours plants and speaks with industry experts and competitors.

3)??Did the Business Retain Its Customers After an Acquisition?

One way to assess the success of an acquisition is to monitor the retention rate of customers after the acquisition.?If a business is able to retain the majority of its customers three years after an acquisition, this is a positive indicator that the acquisition was successful.

The retention rate of customers can be a good indicator of the quality of the acquired company's products or services.?If customers are satisfied with the acquired company's products or services, they are more likely to remain customers after the acquisition.

The retention rate of customers can also be a good indicator of the management team's ability to retain customers.?If the management team is able to retain customers after the acquisition, this is a positive indicator that the management team is competent.

4)???Did the Business Retain Its Employees After an Acquisition?

Acquisitions can destroy company culture.?When one company acquires another, it often tries to standardize the acquired company, which can damage the entrepreneurial spirit of the acquired company. This can lead to the most talented employees leaving the acquired company.

It is important to understand the attitude that management has toward the employees of the acquired business.?Some acquirers respect the employees of the acquired company, while others treat them as second-class citizens. It is important to find an acquirer that respects the employees of the acquired company.

It is important to retain talent after an acquisition.?The employees of the acquired company often have valuable knowledge and expertise that can be used to grow the acquiring company. It is important to retain these employees in order to maximize the value of the acquisition.

Cisco is a good example of an acquirer that respects the employees of the acquired company.?Cisco has a policy of retaining as many employees as possible after an acquisition. Cisco also communicates openly with the employees of the acquired company and gives them essential information about its plans for the business.

5)???Did the Acquiror Overpay?

Companies often overpay for acquisitions.?This is because they do not know the true value of the target company and are often excited about the acquisition. Another reason is management overestimates synergies. Synergies estimates typically grow higher during boom markets as the acquirer company forecasts higher revenues due to cross-selling or increased cost reductions.

In auction-based M&A transactions, the chances of overpayment are high, as the management team can face the fear of missing out and end up paying higher prices.

Successful acquirers have a disciplined acquisition strategy.?They are willing to walk away from deals if they believe they are about to pay too much. One such example was John Malone in TCI, who walked away from a sizeable transaction in Hawaii, that was only $1 million above his target price.

When evaluating an acquisition, it is important to consider the price paid.?The lower the multiple paid for a business, the more room management has to make mistakes in its future projections.

6)???How was the Acquisition Financed?

The way the acquisition was financed has a significant impact on the company’s future performance. There are four ways to finance an acquisition: cash, debt, equity, or some combination of all three.

If an acquisition is financed using cash, then management is highly conservative. For example, most of the acquisitions made by Berkshire Hathaway are made in cash, which has allowed Warren Buffet to deliver superior returns to his investors.

If a management team uses debt to finance an acquisition, be cautious that it does not take on too much debt. In this instance, worst-case scenario analysis becomes very helpful to determine the level of free cash flows that can help business to make debt repayments.

If a business uses its undervalued stock to make acquisitions, it dilutes the ownership interest of shareholders of acquiring entity

If the business can use its overvalued stock to make acquisitions, it favors the acquiring shareholders. This is because the acquiring company's shareholders will be able to acquire shares of the acquired company at a discount.

Conclusion:

In conclusion, there are a number of factors that can contribute to the success or failure of an M&A deal. By considering the six questions outlined in this article, corporate development professionals can get a better understanding of whether or not an M&A deal was successful.

It is important to note that these are just six of the many factors that can affect the success of an M&A deal. Other factors, such as the economic environment and the competitive landscape, can also play a role. However, by considering these six key questions, investors can get a good starting point for evaluating the success of an M&A deal.