Many companies are facing challenges in growing their businesses organically. We expect this trend to continue for the foreseeable future principally based on weakened economic growth (domestic and worldwide) and increasing competition primarily due to disruptive technologies, as well as other factors. For publicly held companies, in particular, there is significant, ongoing pressure to generate continued increases in shareholder value as well as stock price appreciation.
Alternatives such as share buybacks and increased cash dividends are short-term strategies that have recently worked to buoy share prices. Over time, however, these financial engineering methods break down and companies often find themselves in a competitively weaker position. Companies with a successful track record of growth and long-term share price appreciation have instead focused on generating recurring growth in profits through a mix of internal and external (acquisition) growth initiatives.
Buy vs. Build
Most companies evaluate growth initiatives on a recurring basis and often look organically to initiate growth through new products/services or extensions of existing offerings. Senior management may believe that organic growth is simpler and less expensive than finding the “perfect” acquisition candidate. In addition, internal expansion may come with more personal recognition, promotion opportunities and compensation upside to senior management personnel. But the ramifications of this singular strategy may result in a more time-consuming, challenging and costly outcome with potentially more risks.
Conversely, a diversified growth strategy that includes both organic growth and targeted acquisitions can quickly and effectively generate profitable growth and incremental value. Acquisition targets do not necessarily need to be large in order to be considered. In fact, the acquisition of a smaller target still provides immediate benefits in addition to its own organic growth potential and cross-selling opportunities. Irrespective of the specific strategy or deal size, an acquisition will likely result in immediate increases in revenues and profitability, dedicated personnel and stronger overall growth potential.
Some of the largest publicly traded companies have a successful track record of growing shareholder value because they generate growth and maintain strong margins while staying competitive. And that combination has repeatedly come from making strategic acquisitions as well as simultaneously growing organically (in the base and acquired businesses). Of the 500 companies that make up the S&P 500 Index, 97% have successfully closed acquisitions. Moreover, 72% of the S&P 500 have made acquisitions in the last 24 months. Given the availability of inexpensive debt financing, excess cash on balance sheets, and the efficiency associated with buying versus building, we expect this trend to continue.
Synergies and the Compounding Effects on Profitability
Most acquiring companies are able to generate cost synergies by eliminating duplicate or unnecessary operating expenses of the target, thus increasing overall profitability. Overlapping internal support functions and sales roles may provide the greatest opportunity for expense savings. In addition, the ability to cross-sell products/services across multiple customers can result in accelerated growth and incremental profits. And the incremental gross profit attributable to these revenue synergies often comes at no additional operating expense. The compounding effect of this incremental growth in future periods translates into acceleration of revenues, operating profit and shareholder value.
Transition and Integration
Critical to the success of any acquisition is the planning, transition and integration of the target’s business within the acquiror’s infrastructure, from a practical and cultural perspective. A 180-day plan should be instituted to ensure the following:
- Best practices among both organizations are implemented
- Senior management and employees work collaboratively
- Cross-selling opportunities are maximized
- Infrastructure changes and expense reductions are appropriately realized
- Challenges are immediately identified and solved
Working with an Acquisition Advisor
Choosing to partner with an advisor that has experience in evaluating and executing acquisition opportunities not only greatly improves success but it creates opportunities. An experienced advisor can add tremendous value across multiple disciplines:
- Leading all elements of the acquisition process including acquisition growth strategy, execution, analytical support and integration
- Assessing a market and competitive landscape to determine opportunities for growth
- Identifying and connecting with high-quality acquisition candidates
- Managing and performing detailed due diligence (financial, market/competitive, operations, etc.)
- Providing detailed financial modeling and valuation analysis that accounts for pro forma combined results, upfront costs, integration costs, synergies, etc. on a risk-adjusted basis
- Utilizing a structure that minimizes cost of capital, and if needed, raising the requisite debt financing from various sources
- Assisting with board-level communications, including investment committee memoranda and full presentation materials