M&A: Key considerations in the target

Your own company seems like a strange place to start talking about in an article titled, “Key considerations in the target.” However, defining your company’s own corporate strategy is actually the first step to take when looking at target companies: a successful acquisition isn’t just a financial transaction; it’s a strategic fit with your own company.

Its incredible how many companies out there are looking to acquire companies, without ever defining what their corporate strategy is. This means really getting to the core of what your company’s goals are – in specific rather than general terms. Once the strategy has been defined, key considerations that any potential target should have, become a lot clearer.

Broadly speaking, there are five motivations for acquisitions: financial, improving cost structure, protect, expand or change the company’s market position, changing the industry and disrupting the industry (see chart below. Source: CFA). It’s not that an acquisition is going to fit into one of the boxes – there will be overlap between the categories. But it’s useful consider which boxes your target fits into.

Be aware when looking at potential acquisitions that certain acquisition strategies in the chart are nearly always difficult to execute. Too often, managers fall into the “buy something cheap” column, which means they’re looking for a deal regardless of whether or not it’s a good fit for their company: not unlike the man who walks out of a suit store after buying a suit six sizes too large but which he’s happy with because it was cheap.

Any target that falls inside the first four columns in the chart is going to extend your business. The fifth column, “disrupt the industry” is for those targets that are going to shift the paradigm for your business. This is typically found where an industrial firm takes on a millennium generation firm which is heavy on technology – Imagine if Indigo Books back in 2000 had taken over Amazon instead of Chapters Books, for example.

The case of Amazon.com is the textbook example of a disruptor arriving on the scene and not being given due attention, but there are similar examples of it happening in just about every industry. The lesson for managers is this: don’t ignore the new companies which arrive offering lower costs or newer business model. These companies are looking to eat your lunch so they’ve got to be on your acquisition radar.

These businesses are the ones that transform your business – the ones that are going to shift your business model. However, if you want to extend your business without changing your business model, focus on the resource part of the target. This distinction is crucial when looking at potential acquisitions.

When you get to this stage, there are some questions we tell clients they have to ask themselves:

1. Is the proposed acquisition strategically logical?
2. Are we acquiring to extend or transform? … this will change how you view the acquisition. And is the combined company capable of what we think it’s going to do?
3. Will it build management or other capabilities?
4. Is the combined company capable of delivering the results?

These questions can bring a lot of clarity to why you’re considering purchasing a firm and whether it’s an acquisition that you should be considering at all. If, in answering them, you’re coming up with some compelling answers, the target may be a good choice. If not – it’s back to the drawing board to consider other options.