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Extracting Deal Value & Fighting Value Erosion

Introduction:

Value creation starts earlier than you think; it begins with an overarching M&A strategy for inorganic growth, which allows you to identify the most appropriate targets for your strategy. Once your targets are lined up, teams need to quickly shift to how they are going to create value through a specific acquisition or divestiture - everything needs to flow through this question, from the due diligence questions and the data to be gathered, to, ultimately, the integration planning. That said, why then do commonly touted deal stats fail to create value or live up to their projected value, but continue to live on?

During our live Q&A last month, Tom Vandeloo, an expert in delivering deal value, walked through some shifts in how value is created via mergers and acquisitions, as well as best practices of how to extract value and fight against value erosion. 

 

Q: How has value creation changed over the last few years?

According to Vandeloo, gone are the days when you can make an acquisition work by “taking the cream off the top” of G&A synergies or via crafty financial engineering. A shift has taken place whereby the low hanging fruit of targeted deals and savings from SG&A (selling, general, and administrative expenses) are mostly gone. Instead, acquirers and deal makers must now focus on operational aspects and deal value hypotheses in order to drive value creation. 

As a result, shifts in target sourcing, due diligence, and integration planning have also taken place, which we will examine below. For instance, risk based due diligence has evolved into a value-based due diligence. Companies are now looking at leveraging ESG (environmental, social, and governance) factors as a way to create value. More specifically, PWC has found acquirers want to “buy dirty and sell clean,” meaning they look for deficiencies in ESG and find ways to clean these up. 

Q: How do you perform operational due diligence with a focus on value creation?

With the above shifts in mind, you must go into due diligence with a set of valuation hypotheses; this requires looking at the target from “the outside in” before you have seen the information memorandum. Everything in due diligence stems from these valuation hypotheses; therefore, when generating them, teams must ask: what is the value creation potential here? Can we quantify it? Do we believe it? Can we execute on it? If so, what is our plan? These questions need to be addressed before embarking on pricing because you will not win the deal if you cannot answer these questions, or if you win the deal before answering them, you will not reap the true value benefit of the deal.

Moreover, Vandeloo cautions against leveraging a checklist approach when going into due diligence. Instead, practitioners must conduct a critical review of how many of the items on their standard checklist truly relate to the current deal and the value creation hypotheses. By doing this critical review, you will free up time and benefit from the ability to put effort into what really matters.

Q: What role does culture play in value creation?

Culture plays a vital role in extracting value, and while it is receiving a lot more attention, practitioners are still not doing enough cultural due diligence. When people or talent are key elements of the deal’s value proposition, ample cultural due diligence that guides integration planning is paramount. Vandeloo recommends gaining access to engagement surveys and surveying employees who will play a major role and then doing two key things with the data: 1) comparing it to your company’s own cultural footprint to identify and analyze gaps, and 2) making important decisions about where you want the combined organization to be. From here, you can build a very detailed change management plan that covers values and behaviors, processes and procedures, and learning and development. 

Key Takeaways:

Deals fail to reach their predicted value for two prime reasons: lack of strategy and failure to plan. Serial, strong acquirers who have an inorganic growth strategy perform better in value realization versus those acquirers who focus on opportunistic deals. Why? Strategic acquirers have a solid understanding of what they bring to the market and what their operating models are all about. Consequently, they know how they will create value, and they also know what a good deal for them looks like so they do not pursue the wrong deals. Finally, be sure to bring operational experts and change management experts to the table early on in the deal’s lifecycle.

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