Tuesday, July 28, 2015 11:18 am
By Dada Adefolami
Investment can be define as the purchase of property with the expectation that its value will increase over time. You expend money with the expectation of achieving a profit or material result by putting it into financial schemes, shares, or property or by using it to develop a commercial venture. Then an investor is a person, company, or organization that has money invested in something, especially one that holds stock in publicly owned corporations.
Business acquisition is the process of acquiring a company to build on strengths or weaknesses of the acquiring company. A merger is similar to an acquisition but refers more strictly to combining all of the interests of both companies into a stronger single company. The end result is to grow the business in a quicker and more profitable manner.
This article looks at the different types of acquisition, their objectives, their value, the acquisition process and acquisition skills.
Mergers and acquisitions are both aspects of strategic management, corporate finance and management, dealing with buying, selling
Acquisitions can be broken down into three main types:
1. Step-out’ acquisitions involve diversification and it takes you into a new business domain.
2. ‘In-fill’ acquisitions add another business unit to existing domains.
3. ‘Absorption’ acquisitions involve integrating new operations within the existing business.
Step-out acquisitions are generally the riskiest as there is often not just an information gap about what you are buying but also an understanding gap – what does that data say about the strategic and financial health of what you are buying? There is also typically a competency gap in that you may not know how to run a business that is different in subtle as well as more obvious ways.
In-fill acquisitions are generally lower risk as you are dealing with the relatively familiar.
Absorption acquisitions are virtually always low risk as they entail fully integrating operations. Exceptions are when a new customer base is being put through the acquirer’s own operations, with the attendant risk of alienating customers.
Acquisitions can be made for quite different reasons: to achieve cost savings, to acquire competences, to grow market share, to just grow generally, to grow internationally, to gain a position in future high-growth markets, to defend the business or protect industry structure, to add shareholder value, to generate exciting new career opportunities, or to send a message to shareholders that the company is a dynamic one.
Potentially poor objectives are: to just grow generally, to protect the business, to generate exciting career opportunities, and to send a message to shareholders that the company is dynamic. Each of these is associated with shareholder value destruction.
Better objectives might be acquiring competences, cost cutting, and generating shareholder value. Absorption acquisitions tend to be made to reduce costs, to increase market share etc.
In-fill acquisitions are typically to defend position, to grow generally and to increase market share – provided that the acquisition actually serves whatever market that is.
Step-out acquisitions are usually more about positioning for future high-growth markets, acquiring competences and growing internationally.
Acquisitions are not only of different types and have different objectives but also add value in different ways – what’s known as value segmentation’. Put simply, ‘value’ comes in different pots and ought not to be collapsed to a single number (e.g. a net present value). In the most general terms we can distinguish between value added at different stages of the process as:
1. AV1: the value inherent in the existing strategy
2. AV2: the value added (or destroyed) by the deal
3. AV3: the value added (or destroyed) through integration (and further strategy development).
The idea here is that each one of AV1, AV2, and AV3 is positive – although, all too often, one, two or even three of these value segments are actually negative.
In addition to these aspects, value can be added in different ways, such as cost savings and gaining market share (‘grate value’), or positioning in markets expected to be high growth in the future (‘opportunity/speculative value’).
Being clear not only about the objectives but also the targeted value of an acquisition means going a lot deeper than just doing a set of numbers for future sales, margins and costs.
Value segmentation can be made very specific indeed. For instance, Rolls-Royce many years ago acquired Allison Engine in the US. The value segments identified here were ‘core value’ (the value of existing products), ‘spares value’ (the value of the spares stream) and ‘capability value’ (the value that could be generated through its skills as applied either in the Allison business or to the Rolls-Royce business). So the business case was based on three, and not one, present values.
Commonly the acquisition process is thought as:
1. Searching for targets
2. Evaluating the targets
3. Doing the deal.
This model is, however, very limited as it fails to nest the acquisition within the strategic context – also in the latter stages of implementation and learning. A better model might be:
1. Goals: define corporate goals, position and do gap analysis (linked to AV1)
2. Role and criteria: define the possible role of acquisitions and set criteria (linked to AV1) in relation to others e.g. organic development and alliances
3. Options: identify and evaluate options (linked to AV1)
4. Doing the deal (AV2 stage)
5. Integration and learning (the AV3 stage).
This model does a number of things over and above a mere search process. It anchors the process to corporate strategies and the wider opportunity stream (acquisitions are not a strategy in their own right but a means towards a corporate strategy). It sets clear acquisition criteria – which can be set up as a series of strategic dos, don’ts and might-dos. And learning is crucial – for any further acquisitions and to steer the integration.
CONCLUSION AND NEED
A wide range of skills are needed to manage the acquisition process. First, there are the strategic, organisational and financial analytical skills for pinpointing current strategic position and needs. There are also the investigative skills on top of these for identifying and evaluating targets.
In addition there are the imaginative, creative and visionary skills sometimes needed to come up with an unusual but cunning idea and the insight that a particular company may really fit in well or not to the business portfolio. This may need the support of culture diagnosis skills as well as smart judgment of leadership capability. Negotiation requires another skill set and also more technical skills associated with due diligence such as legal, tax and financial.
Integration entails change management and communications skills as well as excellent project management, speed and tenacity. To combine this with the learning process demands considerable objectivity.
The need for outstanding leadership capability, is a tall order that cries out for adequate training, the right team, sufficient resources, a detailed and thorough plan, and the right people – who need to have supernatural force for where the risks and uncertainties lie and could be controlled.
*Dr Dada Adefolami PhD CPFAcct. is a Finance / Management Consultant and Certified Forensic Accountant. [email protected], 08052043855