Driven by specific market, asset, and intellectual property needs, the last 20 years have seen mergers and acquisitions become an integral part of the corporate growth equation for businesses of all sizes. Unfortunately, research conducted by firms including A.T. Kearney, PricewaterhouseCoopers, McKinsey, Bain, and Business Week reveals that an astounding number of M&A transactions ultimately fail to achieve stakeholder objectives- much more than half, by some estimates- which makes them a very costly proposition strategically and financially for the companies on both sides of a deal.
Separately, Mergerstat.com spent three years tracking results from the 8,224 domestic transactions conducted in 2001. The study estimates that a staggering $560 billion of business value was destroyed due to M&A failure. What was their conclusion? "Companies continually embark upon the merger and acquisition trail without fully understanding the risks ahead."
SummitPoint Management conducted detailed root cause analysis on more than 200 cases of failed merger and acquisition transactions. The results were intriguing – we found that a large percentage of merger and acquisition failures were preventable. In fact, very few failures occurred because of weak financial valuations, flawed legal opinions, or poor auditing skills. Rather, poor outcomes most often resulted from a failure to discover and address operational and integration risksduring the due diligence phase of the transaction.
Due diligence may be the most time consuming and least glamorous activity of the deal structuring process. It all too often becomes an exercise in verifying financial statements and fishing for legal-related skeletons rather than truly challenging the logic, legitimacy, and practicability of the deal in supporting business value creation versus destruction. Savvy acquirers have recognized the importance of augmenting typical due diligence activities with operations due diligence. This in-depth examination of operational factors puts a broader, strategic rationale for the acquisition under a microscope and has been shown to dramatically increase the likelihood of long-term deal success.
What is Operations Due Diligence?
Operations due diligence is the methodical process of investigating and evaluating the operational details related to a potential investment or business initiative. Its purpose is to:
The value derived from the identification and mitigation of operational risks is not just limited to mergers and acquisitions, but also applies to debt or equity placements, joint ventures, institutional lending, and performance improvement initiatives of all sizes.
It is important to understand that "operations" in this context must include all business and work processes throughout every functional area of the organization, such as business strategy, sales and marketing, supply chain, information technology, finance, operations, human resources, and property management. Limiting the assessment to only those few functions of a company that supports its main activity may omit important factors that could impact a deal's success.
We recommend that those performing operations due diligence follow a three-step process. First, gather critical operational-based intelligence using an integrated model. Second, assess business activities, processes, and operations in a comprehensive, repeatable, and predictable manner. And third, align the due diligence activity and availability of intelligence with the decision-making timeline and the goals of the acquisition and/or merger. This integrated approach toward gathering, assessing, and aligning a firm's processes, operations, and activities will reveal key interrelationships, disconnects, and higher order synergies between operations-based functions.
By modifying generally accepted due diligence practices to include a penetrating assessment of operational-based factors, stakeholders will be more likely to get the real story beneath the often heavily-varnished surface, make better-informed investment decisions, add post-close value, and be subjected to fewer surprises.
On average, the majority of newly acquired or merged businesses will fail to realize stakeholder objectives. The majority of these failures do not take place because of poor financial valuations or auditing skills. In fact, the poor statistical performance is caused by a failure to discover, assess, and account for operational risks during the due diligence phase of transaction structuring and investigation.
This strongly suggests that operational risks should be included in future due diligence audits for proposed mergers and acquisitions, regardless of size and complexity. In order to reveal key interrelationships, disconnects, and higher order synergies between operations-based functions, it is crucial to gather critical operational-based intelligence. An integrated and repeatable operations due diligence process that includes "lessons-learned" from past deals can meet this charge.
Using an operations-based assessment process to discover, assess, and account for operational risks, coupled with typical due diligence, can greatly increase the probability for merger and acquisition success.
|Michael Sarlitto and Dan Roman are Managing Partners at SummitPoint Management, a national professional services firm providing a full array of M&A due diligence and transaction advisory services to a wide range of publicly traded and privately held companies. They can be reached at 312-441-1400 or www.summitpointmanagement.com.|