Advance preparation can also help in the financing of a deal. In 2002, after being appointed CFO at Spanish telecommunications company Telefónica SA, Santiago Fernández Valbuena spent long hours courting commercial banks to establish open pipelines to capital. That groundwork paid off in 2005, when Fernández Valbuena secured financing for the company’s US$32 billion bid for the mobile and broadband service provider O2 over the course of a weekend.
Among the many mistakes that companies can make in M&A, the truly irreversible one is paying too much. There is no recovering from an acquisition that doesn’t earn its cost of capital and that ends up diminishing the company’s profitability or burdening it with a debt load that it cannot service. “If you can’t build the case for how you’re going to make money, you shouldn’t go after a certain target,” says Kurt Bock, the CFO of chemical company BASF SE.
Leading financial chiefs determine the value of potential targets in several ways. They triangulate value through multiple analytic methods, and they subject critical assumptions and other risk factors to a comprehensive sensitivity analysis. But even the most detailed numerical forecast isn’t always sufficient. The problem is that the model’s output is only as good as what goes into it — and synergy assumptions are a big part of that input. Aware of this, CFOs do not rely solely on the synergy estimates of the business managers who propose the deal and are pushing for it; they also call on centralized M&A departments, whose job is to view the economics more dispassionately.
A centralized M&A staff, with its breadth of experience, can also play an important role in spotting some less-obvious risks of M&A. The departure of essential employees and the possibility of regulatory change and culture clashes, especially when the parties merging are from different nations, can hurt revenue and profits, and can turn what may look like a sure bet on paper into a losing proposition.
Winning CFOs use creative deal structures to lower the risk of paying too much. Merck CFO Kellogg, for instance, recommends structuring riskier deals so that a portion of the payout is contingent on the target’s achieving key milestones. Where feasible, these “earnout” mechanisms can be very effective in mitigating the risk of overpayment, aligning interests, and bridging the gap between the future expectations of buyers and those of sellers. The deal structure is also often designed to incorporate other elements of risk management, such as the form of consideration or the use of collars on stock deals.
Cash In Your Synergies
Once a deal is done, investors judge CFOs on their ability to deliver on promises and achieve synergies. There is generally little question about what is expected; CFOs have created these expectations themselves, by talking to the equity markets, often in considerable detail, about the deal’s economic rationale. In today’s demanding business environment, there is no time for blurry plans, timid decision making, or ambiguous communication.
Woe betide the CFO who has not already created a detailed implementation plan and convinced the business units of its urgency.
“When the deal closes, it’s already 70 percent predetermined to be a success or a failure,” says Deutsche Telekom’s Eick. “If you aren’t able to flip the switch and get started at that moment, it’s too late.” To meet the demands of planning implementation, CFOs need a dedicated financial control capability that enables them to keep track of critical events, measure the size and robustness of identified synergies, and create an unbiased and comprehensive picture of a deal’s results. Integration plans should include a clear time line of milestones and hold specific managers accountable for achieving them. When the deal is closed, financial synergies that were once theoretical discussions should be embedded in budgets, and nonfinancial synergies should be tracked as integral parts of synergy scorecards.