04:26
Faizan
The number of Mergers and Acquisitions (M&A) that end in failure is a matter of conjecture but it's commonly estimated that over 50% of all M&A deals fail to achieve their intended goals. If true, that represents an astounding loss of investment dollars as well as the lost time, energy, reputations and everything else that goes along with closing an M&A deal. Lowering the failure rate by even a small amount has the potential therefore to save billions in lost dollars. While specific reasons are usually cited for individual failures, it's difficult to generalize about a root cause of the failures that would allow investors to avoid or at least mitigate their investment risk. To find a global means of lowering the risk of an M&A failure we need to look for systemic causes of the problem.
By M&A failure I am referring to failures that occur after an M&A deal has been closed, not a failure to close the deal (a subject all to itself). The specific reasons cited for M&A failure usually include target business issues such as the lack of anticipated or promised performance, culture clash, management team and key employee loss, changes in the market... and on and on. But again, while these may be the cause of a specific failure, citing the cause of an individual failure doesn't help us identify the systemic causes. For our purpose then, we will need to use a more generic definition of an M&A failure. To accomplish this, we can simply define an M&A failure as a merger or acquisition which, after 2-3 years, the investor wouldn't do over if given the chance. I limited it to 2-3 years because after that there is a good chance the business failed for other reasons.
To find a systemic cause of failure, we must turn our focus to the M&A process itself. Dr. W. E. Deming was a mid Twentieth Century scientist who did much of the original research on quality assurance techniques. In his work he demonstrated that product failures resulted from the manufacturing processes that were used to produce the product and that, by improving the process, it is possible to reduce the resulting failures. More recently, we have seen this principal demonstrated by Toyota when they adopted the "Kaizen" method. "Kaizen" is the Japanese word for good or positive process change. To improve the quality of their cars, Toyota uses "Kaizen" to remove systemic manufacturing defects. "Kaizen" is now being applied in many other industries. While the M&A process is not a manufacturing process it is a repeatable process and by analyzing that process, it is possible to identify the systemic root cause of some M&A failures. We can then use a "kaizen" approach to modify the process to lower the M&A failure rate.
Overall, the M&A process is a methodical, legalistic process embedded with activities tied to letters of intent, the definition of terms and conditions, the creation of an acquisition agreement and other documents needed to transfer ownership of the target business in a diligent manner. Activities like negotiating the terms of the agreement or preparing the transfer of document can be tedious but they have exacting results and are generally not the cause M&A failures.
Due diligence by contrast is the most subjective step in the M&A process. Many investors don't fully understand the role of due diligence and begin with only a notional understanding of what they hope to accomplish. This gives us the first clue to the cause of many M&A failures.
To understand the problem, lets break the M&A due diligence process down a little further. To be effective, due diligence should assess three distinct facets of the business; legal, financial, and operations, and these should be performed with equal effectiveness. Most investors do a good job at legal and financial due diligence but fail to perform an effective operations due diligence. This is due to the fact that legal and financial due diligence rely on the frameworks of law and accounting as their guiding principles and, assuming that the investor has a competent attorney and accountant, there is little reason not to perform these assessments effectively. Operations due diligence is a different story. There is often confusion regarding exactly what needs to be assessed during an operations due diligence or how to measure and report on the results. To understand the nature of this problem, this would be a good time for the reader to take a moment to write down what you think constitutes an effective operations due diligence. Later we will see if your definition has changed.
By M&A failure I am referring to failures that occur after an M&A deal has been closed, not a failure to close the deal (a subject all to itself). The specific reasons cited for M&A failure usually include target business issues such as the lack of anticipated or promised performance, culture clash, management team and key employee loss, changes in the market... and on and on. But again, while these may be the cause of a specific failure, citing the cause of an individual failure doesn't help us identify the systemic causes. For our purpose then, we will need to use a more generic definition of an M&A failure. To accomplish this, we can simply define an M&A failure as a merger or acquisition which, after 2-3 years, the investor wouldn't do over if given the chance. I limited it to 2-3 years because after that there is a good chance the business failed for other reasons.
To find a systemic cause of failure, we must turn our focus to the M&A process itself. Dr. W. E. Deming was a mid Twentieth Century scientist who did much of the original research on quality assurance techniques. In his work he demonstrated that product failures resulted from the manufacturing processes that were used to produce the product and that, by improving the process, it is possible to reduce the resulting failures. More recently, we have seen this principal demonstrated by Toyota when they adopted the "Kaizen" method. "Kaizen" is the Japanese word for good or positive process change. To improve the quality of their cars, Toyota uses "Kaizen" to remove systemic manufacturing defects. "Kaizen" is now being applied in many other industries. While the M&A process is not a manufacturing process it is a repeatable process and by analyzing that process, it is possible to identify the systemic root cause of some M&A failures. We can then use a "kaizen" approach to modify the process to lower the M&A failure rate.
Overall, the M&A process is a methodical, legalistic process embedded with activities tied to letters of intent, the definition of terms and conditions, the creation of an acquisition agreement and other documents needed to transfer ownership of the target business in a diligent manner. Activities like negotiating the terms of the agreement or preparing the transfer of document can be tedious but they have exacting results and are generally not the cause M&A failures.
Due diligence by contrast is the most subjective step in the M&A process. Many investors don't fully understand the role of due diligence and begin with only a notional understanding of what they hope to accomplish. This gives us the first clue to the cause of many M&A failures.
To understand the problem, lets break the M&A due diligence process down a little further. To be effective, due diligence should assess three distinct facets of the business; legal, financial, and operations, and these should be performed with equal effectiveness. Most investors do a good job at legal and financial due diligence but fail to perform an effective operations due diligence. This is due to the fact that legal and financial due diligence rely on the frameworks of law and accounting as their guiding principles and, assuming that the investor has a competent attorney and accountant, there is little reason not to perform these assessments effectively. Operations due diligence is a different story. There is often confusion regarding exactly what needs to be assessed during an operations due diligence or how to measure and report on the results. To understand the nature of this problem, this would be a good time for the reader to take a moment to write down what you think constitutes an effective operations due diligence. Later we will see if your definition has changed.
Posted in: business
