Opportunities to Improve the Corporate Acquisition Journey

Speaker 1: 
Welcome to Insight Exchange, presented by L.E.K. Consulting, a global strategy consultancy that helps business leaders seize competitive advantage and amplify growth. Insight Exchange is our forum dedicated to the free, open, and unbiased exchange of the insights and ideas that are driving business into the future. We exchange insights with the brightest minds of the day, the most daring innovators and the doers who are right now rebuilding the world around us. 

Tom Marshall: 
Hello everyone. I'm Tom Marshall, a principal in L.E.K.'s organization and performance practice where I work with clients to drive value creation across all aspects of their business. I'm delighted to be hosting this podcast today where we'll be talking about how strategic and financial investors can improve their acquisition journey. We'll delve into the challenges faced in effectively competing for acquisition opportunities. Here's what we'll be covering, the decline in the success rates of corporates in securing acquisitions compared to financial investors, understanding the reasons behind this trend, including challenges in valuation and deal agility, and finally highlighting those key areas where corporates can adapt their approach to enhance their acquisition strategies. Before we get started, let's get some quick introductions from our guests here today. 

Harpreet Singh: 
Hi everyone. I'm Harpreet Singh. I'm a partner in L.E.K.'s industrials practice. I work extensively with corporate and financial sponsor clients on growth and transformation topics. M&A is a big one among them and I'm looking forward to the discussion today. 

Phil Roux: 
Hi everyone, really happy to be here today. My name is Phil Roux. I'm a partner in L.E.K.'s Global Organization Performance and Practice with close to 20 years experience. I help private equity and corporate clients in their transformation agendas, including navigating the M&A lifecycle with a big focus on preparing and executing on value creation in M&A. 

Tom Marshall: 
Thank you both. Very happy to be discussing this topic with you today. To set the scene, let's discuss what are the big trends we are seeing in the M&A environment? 

Harpreet Singh: 
Yeah, so if I kick that off, I think it's fair to say that M&A markets have been volatile in recent times and you can look at them and say, what do we make of it? However, if one observes activity over the last few years, a couple of things stand out. Firstly, we observed that there is a lot more competition for M&A and particularly for good targets we see that the nature of competition has evolved quite a lot. 

Strategic and financial investors are both fighting for the same businesses who are doing well in the niche markets. The other interesting observation is we observe that financial investors seem to be winning more in that competition. If you analyze the market shares between financial investors and strategic ones, the share of financial investors has doubled from 22% roughly in 2018 to more than 40% in recent years. 

Now, that to us is slightly counterintuitive given you'll argue that the synergies that corporates can deliver should give them an increased chance of winning, and we don't think it is because financial investors have deeper pockets. If we look at the multiples that both sides are paying, they actually end up being relatively similar to each other. It poses a question that what can corporates and for that matter, financial sponsors should be doing or could be doing to improve their chances in the M&A battle? And hence we are here for the discussion today. 

Tom Marshall: 
Yes, and I think an important first place to start the conversation is to think about why it is that corporates might have been becoming increasingly unsuccessful in competitive processes in recent years. We know that due to their governance, ownership and financial setup, corporates will always tend to face more approval steps and hurdles in their approach to M&A than most financial investors, which is especially true for public companies. But what we have seen is that those investors who are more likely to struggle to win in a competitive process, which does tend to be corporates rather than financial investors, really struggle due to five issues. Phil, perhaps you could summarize these issues for us? 

Phil Roux: 
Yes, of course. So sort of as you say Tom, we can broadly summarize the challenges that they face around five themes. So the first one is being slow to mobilize these critical and competitive deal processes to really be on the front foot. And we are also seeing a trend in increasing preemption of deals, particularly with private equities looking to get ahead of the game. So being proactive and being in the right place at the right time is important, and often those who struggle don't have the clarity to be proactive and are more reactive, may have a lack of M&A capability in-house to allow them to get moving quickly. 

The second one is focus when it comes to the live deal process. So particularly for corporates, you have multiple capital allocation priorities. There's many places you could put that money as well as the M&A you're looking at. So there's always going to be potential distractions, not to mention delivering the business as usual at the same time. So how do you create that focus to move through an M&A transaction effectively is quite a challenge. 

Thirdly is agility and pragmatism when it comes to driving through to a view and an answer and being able to then move. This comes down to corporates often thinking too much like an operator and not enough like an investor. They're worried about what could go wrong, what is the day-to-day, the tactical, the operational challenges, and not focusing on the really critical value driver levers. 

They also have many, many more stakeholders to satisfy. Functional leaders, business unit leaders, a board of directors. So that also adds complexity to the situation. They are often also overly conservative in the valuation approach. So both the synergies and the standalone value potential private equity effectively they back management teams to deliver a plan, a corporate acquirer needs to back themselves as well as the management of the target business, and that has a burden of knowledge and worry and accountability that they need to deal with and work through in this kind of process. 

And finally, decision-making efficiency. As we've said before, there's a lot of governance bureaucracy that they need to navigate to the point of offer. Typically, they have limited scope to negotiate, so if they need to push harder, they may even have to go back to get further approval. And again, the question will arise, is this the best use of money as they get to that crunch point in the deal process or could they put that money somewhere else? Is the return going to be there compared to another allocation of that capital? 

And as we know, M&A, timing's never perfect. So are they ready? Do they have the maturity to integrate this business? All these additional challenges come into play as they get to the point of decision-making and financial investors just fundamentally don't have to deal with these challenges. 

Tom Marshall: 
Yes, I think it's fair to say we've certainly seen these issues occur at a number of transactions that we've worked on together, but the situation isn't hopeless. There are definitely some steps that investors can follow to try and be more competitive in the process. We've seen that there are corporates who are more successful in their M&A approach. Usually this would be as a result of deploying specific solutions or instill particular behaviors. Harpreet, perhaps we can start with getting your thoughts on what can be done. 

Harpreet Singh: 
Yeah, Tom, as you say, we have a slightly unique perspective on it given we see such a wide cross section of transactions and behaviors across corporates and financial sponsors. So if you're to talk about some good practices here, the first big area would be around vision and clarity when it comes to what are you even trying to achieve with the M&A? 

Some of the questions businesses need to ask themselves is how M&A actually enables your overarching strategic objectives. So if there's a vision in mind we are trying to get to in 5, 10, 15 years, what is the role that M&A is playing in that vision development? You need to start to get a lot more specific than that at the next level to say, is the M&A going to help you access new markets, geographies, customers? Would it accelerate any particular capability build? Does it provide you a certain kind of scale benefit or some combination of those benefits? 

The other question businesses should think about is how big a role M&A will play in achieving those objectives? So are we talking about transformational acquisitions or we are thinking about being a serial acquirer of more bold acquisitions or being relatively opportunistic with one or two deals here and there. That will start to unpack what you are actually looking for in potential targets. What does good look like in a given target and relate to that importantly what you're not looking for? 

And some of those questions are really crucial to answer, and we sort to see that those questions start to set the tone for how a business approaches all aspects of the M&A lifecycle. And typically that would entail explicit choices around M&A in your strategic plan, investing time and energy in what we'll call as thematic sources where the understanding of the landscape you're looking at and what a good potential target looks like. 

All of that starts to become more of a rule book. And then ultimately building a muscle around target outreach and relationship building, which is often underestimated in processes that we often observe. As you start to do those things more regularly, several benefits start to accrue. So we observe that businesses that are good at it, they start to become much more agile, faster when it comes to progressing a real deal. You know the key targets reasonably well, so that's quite useful when you get into doing diligence. You know what you're looking for from a pre-selection perspective. 

You also start to get some initial buy-in with key stakeholders. Think about the board for example. One other aspect which is worth alluding to as a big benefit here would be you start to develop relationships with potential targets because you come across as more informed, you're more proactive in your reach outs, and that relationship building often provides a really crucial edge in actual M&A execution, and they also present other opportunities like partnerships. So the benefits are wide-ranging. 

Tom Marshall: 
And once a corporate is more proactive in how it approaches identifying targets. Are there any other opportunities for improvements in the way they set about getting themselves ready for success when they begin a process? 

Phil Roux: 
Yes, Tom. I think governance and process become really critical here, particularly in a corporate setting where you're trying to define and create focus around this in the midst of all your business as usual activity. 

So firms that are really adept here, they really create an environment and a process that ensures you really get that timely decision making and limits last minute scrambles to unforeseen questions and challenges that chip away at the confidence or just delay your ability to provide your offer in the process. And we've seen many times that even simply timeliness and ability to be the first one to bring an offer to the table can sometimes be a deciding factor in these highly competitive processes. So this is quite crucial. 

So some of the key elements to create a recipes of a success here around a very structured program of education and bringing along on the journey those ultimate decision makers for that particular piece of M&A. Now if it's transformational, it's large, but that could be the board or group exec. If it's slightly smaller, that might be more divisional or executives or whoever it might be. The good example here is just look across the fence at the world of private equity with their investment committee that's effectively designed to drip feed and build understanding and build readiness to make decisions all the way through the process. 

And then having a really formal M&A process with clear roles. Are there dedicated roles? Who are the key business stakeholders and what is their role in this process? Potentially even having a formal diligence office, so the equivalent to a program management office. Make sure that you are also then involving the right sort of people in that process that are not just dealing with deal completion questions, but also post-deal realities. So really understanding the questions around integration and running the business and owning the business after the fact so that you can be really confident around the valuation and what is driving the value in there, clarity on the role and advisors if you are going to use support, how and how do you make sure you don't duplicate effort? It's a collaborative and effective effort. 

This is particularly important also when you've got a group that is going to start to cross organizational boundaries, right? You're going to have people at the group level that are going to be part of the decision-making, some people in division if you have global functions or they're going to be people there that are going to have to [inaudible 00:13:49]. How do you bring the right people together at the right time and have an effective constructive process? 

And then also you need to remember that that process doesn't end at completion of the deal. To some degree it really starts then. So an M&A process and the roles needed defined all the way through your integration. In my personal experience, the biggest value destruction drivers for corporates in M&A is the disconnect between deal making and integration. So being far more thoughtful integration is critical, and even in a PE setting, this can be quite relevant too, particularly for businesses that have never experienced private equity ownership before. Thinking about the posterior realities or if you're thinking about a buy and build, this is clearly relevant. 

Tom Marshall: 
And my experience has been that even when corporates are well set up, when they begin working on a deal, things can become derailed as they try to address all potential questions during the diligence process. Harpreet, across the many times when you've supported clients during their due diligence activity, what has been your experience of what good looks like? 

Harpreet Singh: 
Yeah, Tom, that's a great question and before we get into the good, I think it is worth alluding to the not so good here. It is very common for businesses, but particularly less experienced in M&A, we observe that they do try to solve all possible questions they can think of. They end up involving pretty much all functional areas and initial diligence, and what that does is it reduces focus, creates a lot of work confusion and several important people in the business end up spending quite a lot of their valuable time digging what you'll call actually unhelpful rabbit holes. It is really vital instead to ensure that there is focus on the big questions, the ones that will help arrive at a valuation number And move the binary decision forward, that do you want to do the deal or not? 

It's important that businesses think of these really in three buckets. The first being, what do you need to believe to validate the attractiveness of a target, confirm how value will be delivered through the transaction and identify and address any deal breaker risks. Management teams then need to become comfortable that there will be topics which will come really to life in the later stage during the confirmatory diligence process and sometimes even later, but that should not delay in arriving at evaluation and moving the process forward. This also means that they need to be selective about who is actually involved from their teams in the initial diligence and just being laser focused on the critical issues. 

Tom Marshall: 
I do think it's fair to say that one of the reasons there is often a lack of focus in the diligence process is that corporates often don't have the right capabilities in place to oversee it. I mean, my experience has been that due to the fact that those running the process may lack the bandwidth or they don't have enough experience to know really where to focus on the factors that drive value. I've seen that they can get focused on some of the longer term integration considerations as they know that they'll be the ones ultimately responsible for delivering on this integration. So how do you think corporates can effectively mitigate for this? 

Phil Roux: 
And this is a critical point, and I think corporates need to be honest about their level of internal capability. They're going to be stretched thin at the best of times. They may have mixed or limited experience in M&A within their ranks, and often you may have key stakeholders that really have a vested interest that may color their view of the deal. The term deal fever is often used and you sort of really want to get the deal done no matter what happens, not considering risk and sometimes being able to evaluate it objectively and to make the decision to walk away can be quite hard. 

So it is worth considering external professional support. Now, that sounds like an obvious thing for a consulting company to say, but hopefully we can make some valid points as to why that's relevant. I think there is a number of benefits to getting external help, so acceleration of the activity and helping to build your internal capability. 

So moving you through the process, giving you the bandwidth and the expertise to move through the process in a timely manner, gets to the right answer, robust answer on those critical decisions that Harpreet was talking about with enough time to make the decisions, make the call and get you bidded on time is really critical. And you can learn and then build that capability so the next time round you will be in a better place to take on a bigger internal share of that role. 

Importantly also, the third party brings fresh perspectives. There's learnings from multiple deals across multiple industries that can add different ways of thinking about how value's created, what the risks might be, and that can help ensure you're already confident in the answer you ultimately get to. And importantly, the objective lens. So providing a very unemotional view on is this attractive? Should you do it, what is it going to take? That's really critical and ensures you don't have any issues around agendas being pushed down. 

Ultimately then you can decide and set up internal M&A capability with a balance as you move through that deal and onto new deals. And certainly in our experience, every time a client has started with a potential hesitancy to use support in M&A, there's always been significant recognition of the benefits, the better outcomes, and the learnings that the internal client team gets from involving advisors through this process. 

Tom Marshall: 
Thanks. And once they've got these capabilities in place how do you think management can really establish the necessary conviction to succeed within these teams? How can they ensure that the valuation they arrive at will ensure they're well-placed to compete against financial investors and ultimately how can they ideally win a deal? 

Phil Roux: 
Yeah, that's the critical question, right? It's can you come to confidently a number that will win you the deal, right? That's ultimately what we're coming to. If you believe it's an attractive target and you want to do it, how do you get that conviction that you can stand behind a number, particularly now in challenging times where the cost of debt has increased so your ability to drive returns that meet investor and shareholder expectations is just getting harder and harder. So how do you get there? It's a great question. 

So I think it starts with a really clear and compelling strategic and value creation logic for the deal. Harpreet, you talked right at the beginning around the broader role of M&A in strategy and thinking through that, so linking into that for a specific target and being very, very precise in how are you going to drive value from the deal, how it's going to achieve those strategic objectives of your business. 

By doing that, you are going to have a great first start in terms of getting to a right price for the target and a right return for you. Another benefit that comes from getting that piece right is you then have a really clear and impactful narrative to win the hearts of the minds of your business and and the business you acquire ultimately when you get into integration. So there is further benefit to doing that. 

Now, to get to that view, it's about a pragmatic balance between top down ambition and bottom up pragmatism and reality. If you have too much of one of those, you're either going to come up with a massively unrealistic number that may look great on paper, may get you to the point of thinking you want the deal, but then you'll be disappointed when you ultimately go to execute, integrate the business and try and deliver on it, or it would just be so unambitious that it's never going to be a winning bid and you will have done all of that effort through the diligence process for nothing. So how do you get to that right balance? 

The top down has to come from, as I said, from this clear value creation logic based on your strategy, based on what you think you can achieve and what potential advisors help you to come to in terms of that view. And then you need to involve in a very targeted way, the right stakeholders within your business, heads of functions, heads of business units, that bring enough of a dose of reality that you can envision pragmatically, how you're going to go do these things and deliver the value without eroding the ambition. 

When you get that right, that's when you get to the magic. Most critical is having an aligned and robust view on three interlink components, value creation objectives, where the synergy is going to come from, whether they're revenue, cost capital, as well as the standalone growth and value creation you are expecting from the business you acquire, how you're going to create a combined operating model so you're have one business that can deliver on that, and what is your integration strategy? What is your approach? What is your phasing? What is your timing? How are you going to go through that? All of those feed into your valuation assumptions and into your confidence to deliver. 

Tom Marshall: 
Great. Thank you both for the discussion and for those corporates who are currently struggling to win in a competitive process then hopefully there are a few helpful takeaways on approaches to improve. Yeah, you should think about ways to improve across five areas. Really developing a more structured approach to pipeline management that aligns to the strategic vision, putting in place the most suitable governance structure to oversee the process, ensuring there's real clear focus on the critical issues. Being willing to make those upfront investments to drive success, and as Phil just talked about, really being more ambitious in the valuation that you place on the deal. To close the conversation, I'd like to thank both Phil and Harpreet for their time. We're very happy to provide more detailed discussions on request and we invite you to connect with us to learn more. 

Speaker 1: 
Thank you our listeners for joining us today at the Insight Exchange presented by L.E.K. Consulting. Links to resources mentioned in this podcast can be found in the show notes. Please subscribe or follow for future episodes wherever you listen to your podcasts. Also, we encourage you to submit your suggestions for future insights online at LEK.com.