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CEO Best Practice: Mergers & Aquisitions

Executive Tools

  • Executive Summary
  • Self Assessment Checklist

Expert Practices Articles

  • Is an Acquisition Right for You?
  • How to Do Successful Acquisitions
  • Finding the Right Acquisition Candidate
  • Due Diligence: Checking Out the Deal
  • Determining Value
  • Negotiating the Deal
  • Managing Transition: Seeing the Deal Through
  • Avoiding the Deal Killers

Case Histories

  • Use a "Possible Alliance" Letter to Contact Potential Acquisition Candidates

Tools & Analysis

  • Environmental, Health and Safety Due Diligence
  • Financial Due Diligence Checklist
  • Legal Due Diligence Checklist
  • Sales, Marketing and Operations Due Diligence Checklist
  • Checklist: Are They Intrapreneurial?

Book List: Mergers & Acquisitions

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CEO Best Practice: Mergers & Acquisitions

Executive Summary

  • Is an Acquisition Right for You?
  • How to Do Successful Acquisitions
  • Finding the Right Acquisition Candidate
  • Due Diligence: Checking Out the Deal
  • Determining Value
  • Negotiating the Deal
  • Managing Transition: Seeing the Deal Through
  • Avoiding the Deal Killers

Is an Acquisition Right for You?

These days, it seems, everybody wants to make a deal. Mergers, acquisitions and rollups are taking place at a record clip. But just because deals seem to be going down on every corner does not mean that everyone should pursue an acquisition. According to Vistage speakers and M&A experts Terry Gambill and Bill Hodge, acquisitions carry a high degree of risk. When properly planned and implemented, acquisitions offer a legitimate growth strategy for companies of all sizes. But when they fail, they generally fail big-time.

According to Gambill and Hodge, there are many legitimate reasons for acquiring another company. These include:

  • Expanding your markets
  • Acquiring people, systems or processes
  • Acquiring new products, services or customers
  • Achieving economies of scale
  • Reducing expenses
  • Creating opportunities for cross-selling
  • Acquiring new distribution systems
  • Eliminating competition

Ultimately, however, all legitimate reasons for contemplating an acquisition fall under one all-encompassing umbrella -- the desire or need for quick and substantial growth.

"When you get down to it, the only real reason to acquire a company is to create significant growth," states Gambill. "If you want to grow incrementally, don't bother with an acquisition."

To tell if an acquisition makes sense for your business, ask three simple questions:

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How to Do Successful Acquisitions

To ensure a successful acquisition, say Gambill and Hodge, get your strategy right first. Formulating an acquisition strategy requires four basic steps:

  1. Identify your goals.
  2. Consider other alternatives.
  3. Establish key parameters for the deal.
  4. Create a one-page acquisition criteria sheet.

Once you have completed these steps, you're ready to start looking for a company to acquire. Before diving head-first into an acquisition, however, make sure you have the right foundation in place in your own business. This includes:

  • Computer and information management systems
  • Management teams
  • Financial planning and reporting
  • Human resources

According to Hodge, potential buyers should answer four sets of strategic questions before making an acquisition:

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Finding the Right Acquisition Candidate

To guide your search for qualified candidates, Gambill recommends developing a one-page "acquisition criteria sheet" that outlines:

  • Who you are, what you do and where you do it
  • Your company's core competencies
  • How you are financed
  • What you're looking for, including:
  • Type of business
  • Size of the business
  • Where it could or should be located
  • Whether you want to buy all or part of the business
  • Whether you want people, places or things, or stand-alone business units
  • Examples of what the deal could look like (if you have already done similar deals)
  • The contact person at your company

Keep your criteria short and to the point. If you can't fit the information onto one sheet of paper, you haven't defined your criteria clearly enough.

With acquisition criteria sheet in hand, you can now start looking for companies to acquire. Acquisition candidates can turn up in many different places, including:

  • Related companies
  • Customers or distributors
  • Vendors
  • Trade shows and industry association groups
  • Salespeople
  • The Internet

Once a candidate meets your initial deal criteria, the next step involves assessing the potential synergies in the deal. Hodge states that synergies come in two categories -- performance breakthroughs and revenue enhancements. Without synergy in at least one of these areas, the deal will likely fall flat on its face.

In addition to assessing the potential synergy, ask the following questions:

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Due Diligence: Checking Out the Deal

According to Hodge, anyone acquiring another business should do in-depth due diligence in three critical areas: marketing, financial and legal (which includes environmental concerns). Marketing due diligence involves taking a hard look at your assumptions regarding the company's future revenue growth and profitability assumptions, as well as assessing the market's key leverage points and how those might be changing. Financial and legal due diligence can be covered by examining four key areas -- assets, liabilities, cash flow and revenue and growth rate.

In addition to these areas, Gambill points out a fourth equally important area -- cultural due diligence. This requires researching how the organization is run, how management reviews, evaluates and rewards employees, and how management sets performance expectations.

To conclude the due diligence process, Gambill recommends creating financial projections using different scenarios. To "pro forma" the deal:

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Determining Value

According to Hodge, the value of a business is a reflection of four key elements -- assets, technology, cash flow and synergy. Together, the first three represent the "stand-alone value" (SAV) of the business, which equals the value a professional valuator will place on the seller's business. Business valuators do not include synergy in their calculations of the seller's value; synergy can only be calculated by the buyer.

The "buyer's economic value" (BEV) establishes the maximum price you can pay and still have a successful deal. To determine BEV, subtract the pre-acquisition SAV value of your business from the value of the combined companies on a post-acquisition basis. Your BEV represents the high end of the price negotiating range.

The SAV of the seller-candidate sets the minimum price the seller will ask (a rational seller will not sell his company below his SAV.) The final price agreed to during negotiations will fall somewhere in between the SAV of the seller-candidate and the BEV.

To avoid losing value in the deal, keep a close eye on the premium -- the amount you pay above SAV. When calculating value, suggests Hodge, keep the following in mind:

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Negotiating the Deal

To get the best deal, says Gambill, let the seller set the price as long as you get to set the terms. In many cases, creative use of terms will allow you to meet the seller's price without paying more than you want.

For example, suppose a business owner wants $2 million for his company but you value it at $1 million. By structuring the deal as $100,000 down, $400,000 in five one-year, no-interest notes, and $1.5 million as five percent of sales, the owner gets his asking price, while you will pay only slightly more than $1 million (based on present net value of the five-year payments). Equally as important, you get the seller to share the risk. If the business goes into the tank over the next five years, you only pay five percent of whatever the business ends up being worth.

When negotiating terms, says Gambill:

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Managing Transition: Seeing the Deal Through

Every acquisition has a "hard" and a "soft" side. The hard side represents the numbers -- the cash flows, revenue streams, cost savings, valuation, price and terms. The soft side represents the people side of the equation. While most CEOs focus the majority of their time and attention on the numbers, the people issues often make or break a deal.

The CEO of the acquiring company needs to take a very active, hands-on role during the transition period. In particular, he or she must:

  1. Set crystal-clear performance expectations
  2. Communicate those expectations to all levels of both organizations
  3. Lay out what the transition will look like
  4. Address the WIIFM (what's in it for me?) factor

"Acquisition creates change, especially for people in the company being acquired," explains Gambill. "And as we all know, people tend to resist change. Unless you address their issues in a forthright manner, the transition effort can quickly grind to a halt."

According to Hodge, a good transition plan addresses the following areas:

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Avoiding the Deal-Killers

According to Gambill and Hodge, only about one out every three acquisitions actually achieve their stated pre-merger goals. They identify the following as some of the most common (and lethal) culprits:

  • Bad strategy
  • Failure to properly analyze the deal synergies
  • Bad chemistry and cultural conflicts
  • Unrealistic expectations
  • Failure to consider the potential impact on your core business
  • Lack of or poorly implemented transition plan

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