2. “We have a thorough understanding of our markets.” Most business leaders are predisposed to believe this. They have been involved in commercial transactions within their industries for the bulk of their careers. However, a merger or acquisition can easily bring a company face-to-face with aspects of its market that it doesn’t know well.
An oil and gas equipment company was about to buy a company that specialized in innovative technologies for reading container capacity. The would-be acquirers thought they knew the market well and assumed this technology — which was most useful for partially loaded containers — would fit. But during due diligence, they discovered that in the largest markets, full load deliveries are the norm, and the technology thus had little utility. Because they weren’t blindsided by their own assumptions, the company avoided making a potentially bad acquisition.
Draw on multiple perspectives, whether from inside or outside the company, to help you become aware of these sorts of issues. As you conduct due diligence, make sure you have a reasonably complete and up-to-date picture of the value chain for your target company’s industry; the relevant market size, relevant segmentation data, and trends and growth drivers in each segment; customer needs by segment; customer attitudes toward the target company; current profit and profit potential by segment; technology trends and potential substitute products; geographic nuances by segment and product; competitive landscape (including as much as you can glean about products, pricing, and costs); and barriers to entry and new disruptive entrants.
3. “Our core market success is replicable in adjacent markets.” The traditional definition of an adjacency is products and services that share some qualities or characteristics with your core market. For example, a manufacturer of frozen foods might think of entering the dairy business, because both businesses involve delivering precooled foods to supermarkets. In reality, however, most moves into adjacent markets are unsuccessful, especially those made through M&A. In our experience, only companies that have a well-defined M&A process that recognizes the importance of existing capabilities and the changes that will be required to evolve those capabilities have successfully executed such transactions with regularity.
Thus, when beginning an acquisition campaign, you should begin by evaluating your capabilities. Examine how well these will apply to the businesses in the company you are acquiring — and how well the capabilities you acquire will mesh with your own lineup of products and services.
The best acquirers take a strongly disciplined approach to business building, with strict criteria for acquisitions. These could include criteria related to target market size, degree of market fragmentation, gross margin targets, cyclicality and volatility, brand strength, customer concentration, and robust replacement parts or other streams of ongoing business. Such strict criteria should supplement the usual, simpler measures used by less-disciplined companies, which might be limited to target company size as well as revenue and earnings growth. When you reject target companies that do not fit your strictest criteria, you put a stake in the ground indicating that any company acquired will set up your company for above-market growth.
4. “We have a well-defined due diligence process.” Many corporate leaders learn the hard way that this isn’t true, particularly when their company is an infrequent acquirer or when they consider acquiring companies in different markets. They underestimate the amount of effort and time consumed by an acquisition or merger. Even when experienced senior executives are overseeing various functions, enthusiastic junior staff are executing the requisite tasks, and some due diligence processes are in place, there is still a tremendous amount of work to be done in a compressed time frame.