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Is M & A a Foolish Strategy?
Not
really. It is risky but expecting growth without risk is like tossing a
coin and not expecting to lose
With over 720,000 mergers and
acquisitions (M&A) globally over the past 25 years, it is disconcerting
to see M&A being singled out as the Satan of corporate strategy simply
because it leaves a measurable reference in value for a comparative review
to measure success in future. So whilst the outcome of any other corporate
strategy takes longer to manifest and can be ambiguous, the result of an
acquisition tends to get scrutinised a lot sooner on the back of a clear
imprint it leaves in the form of an acquisition price.
Studies over the past 25 years suggest 60-70% of
M&As are failures and continue to do so; but global M&A grew from
$550 billion in 1990 to $2.2 trillion in 2012. Even in emerging markets
like India, M&A has grown from $10 billion in 2000 to about 600 deals
aggregating $42 billion in 2012. If the studies on M&A failure rates
are viewed independent of reasons for failure or for that matter reasons
for failure of any corporate strategy, then the global corporate universe
would appear foolish keeping inorganic expansion central to its growth
strategy.
Build vs Buy
In the alacrity of passing flash judgements on the effectiveness of an
M&A strategy, industry critics seem to ignore the fact that M&As
are the result of an expansion strategy and not the cause. It is a basic
build versus buy decision where choice of expansion has already been made.
And any choice of growth can go bad — be it the choice of expanding through
diversification, the choice of bringing in new leadership in a running
business, or the choice of starting a new venture itself. Not many would
remember that McDonald’s opened two fourstar hotels in Switzerland as part
of a major diversification strategy, only to struggle with positioning and
breakeven. The hotels eventually had to be sold to become Park Inn Zurich
and Park Inn Lully. Similarly, Dell ventured into the smartphone business,
only to subsequently re a l i s e that its mediocre hardware and lack of a
superior operating system was a major setback. It eventually stopped
selling smartphones and exited this business completely.
Or consider for that matter the attempt by JC
Penney to modernise its business by hiring an ex-Apple executive as CEO,
who unsucc e s s f u l ly t r i e d t o make the department-store chain
more modern by eliminating its popular promotions programme. This only
drove away customers. During his 18-month tenure, JC Penney’s shares lost
half their value.
Consider the success rate of start-ups in India — a
dismal 25% as against 50% in Silicon Valley. This cannot be interpreted as
a hypothesis against entrepreneurship, which has led the India success
story from the front in the last decade.
And then you have examples of corporations taking
the fundamental decision to expand organically, albeit only at the cost of
limiting opportunities for growth. Emirates Airline’s organic strategy in
Germany is a case in point. It has for years lobbied hard for landing slots
in Berlin, but in vain. And along came Etihad to pick up a 30% stake in
cashstrapped Air Berlin for $350 million in loans and fresh capital to get
instant access to this strategic platform.
It would only be foolish to believe that corporations looking to get out of
their existing domains or comfort zones are foolish to do so as they risk
failure in uncharted territories. Shareholder value is all about growth,
and expecting grow th without assuming risk is like tossing a coin without
the risk of losing.
Getting the Numbers Right
While
an acquisition may have a higher risk of failure than any other
expansion strategy, it also provides a much superior return profile in
comparison to an organic build strategy. M&As are intrinsically risky
and predicting the aftermath of any acquisition is impossible. But there
are learnings from the past that can mitigate the risk of failure. Most
M&As fail due to inadequate articulation of two key enablers of a deal:
transaction management, which is all about paying the right value,
conducting a thorough due diligence and appointing the right transaction
adviser; and integration management, which is about devising a detailed
integration strategy ahead of the buy decision to keep the rationale of the
acquisition intact.
The fact of the matter, however, is that any
corporate strategy can go bad despite putting safeguards against any
possible fallout in future. And so can simple business decisions related to
marketing and research and development.
If there are precedents where shareholder wealth
has been written off as a fallout of ill-planned M&A, there are more
than a handful cases of history been created through well executed M&A
strategy to deliver immense value to shareholders. IBM, with a market value
of $227 billion, has virtually been created through acquisitions. It has
acquired 187 companies since the year 2000 for about $41 billion. And such
is the case with Cisco, with over 460 acquisitions over the past 15 years,
which increased its sales from $4 billion in 1996 to $46 billion in 2012.
And such is the case with several large giants in diverse sectors like
consumer, media, energy, telecom and advertising which owe their birth and
evolution to successful M&A initiatives.
And then there is Exxon Mobil. It is what it is
today on the back of a merger between two energy giants, which clearly
didn’t happen without the risk of failure in 1999. The company surpassed
Apple as the world’s most valuable company with a market cap of $385
billion in April 2013. Imagine convincing the company’s management on the
risks associated with a foolish strategy like M&A on the back of
statistics of failed mergers. It’s not a difficult guess who would have the
last laugh!
Harish HV & Sumeet Abrol Harish
HV (L) is partner, India Leadership Team; Sumeet Abrol is director
(M&A), Grant Thornton. Views expressed are personal
ETM130519
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