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By Dinesh S Gaur
Last few years have witnessed a number of mergers and acquisitions globally. But most of the
M&A deals end up in a failure. Fantastic financial valuation before the deal does not necessarily
translate into creation of shareholders wealth after the merger. The researchers have identified
negligence towards supply chain during due diligence stage of deal as one of the biggest factor for
such failures. This article examines such thoughts and suggests some critical success factors,
which directly influence supply chain, to consider before making a deal.
Similar to Pfizer, Cisco has also gone through series of acquisitions since mid 1980s
till early 2000s. But unlike Pfizer the objective of Cisco was not cost reduction. Cisco
went for the companies which were in same service line i.e. data networking business
to fill the gaps in capability rather than waiting to develop those. Due to its 82
acquisition in that period Cisco kept its dominant position in data networking
business2.
1 IBM internal researches and Supply Chain Management Review
2”Growing Through Acquisition” The BCG Report -2004
But it is not true that synergies can only exist when the target company has similar
product/service line. Consider the case of Newell, a small curtain rod manufacturer in
US since 1902. It was a small company till early 1970s with less than $100 million in
revenues when it realized the growing dominance of large retailers like Kmart and
Wal-Mart. The company executive identified that these big retailers are selling
merchandise supplied by thousands of small manufacturer and managing logistics for
these many suppliers was big headache for such retailers. So Newell set out to become
one-stop shop for mega-retailers. Over the next 25 years, Newell made some 100
acquisitions of supplier of various products like hardware and household product. This
led the company to dramatically improve the operations by exploiting the economies
of scale in logistics and sales force, increasing the product development and
introducing the common system and infrastructure. The result was an integrated low
cost vendor that grew to $ 2 billion revenue in mid 1990s1.
In all of the above cases the critical thing was to identify the product or service of the
target company that will fit to acquiring organization’s long term strategy.
Take the earlier example of Newell, Newell success model depends on acquiring
companies reasonably well managed, in good standing with big discount retailers and
not so large that Newell couldn’t easily intervene to get desired performance. But in
1999 Newell purchased Rubbermaid, Newell’s largest acquisition ever. But
Rubbermaid was slow to recognize the power shift towards large discount retailers
and had alienated them by not being responsive to their needs and lacking in the
service standard. Newel’s revenue and share price suffered as result. Newell’s
shareholder returns lagged the S&P 500 by 2.9%1.
2. Realistic Valuation
Valuation is integral part of any M&A deal. But in most of the cases valuation are only based
on financial ratios and future earning and cash flows. Globally, finance experts and M&A
architects put stress on top down approach of valuation but in practice it is seldomly followed.
Macro level indicator like maturity profile, industry benchmark etc are sometimes ignored
because of excellent projection of future cash flow. Point to be noted here is that future cash
flow or earnings are based on past performance and an assumed and agreed upon growth rate.
Won’t it be more robust projection if organizations focus more on specific projects and
opportunities rather than a cumulative growth rate of target organization as a whole?
Another thing that needs to be taken care during valuation is cost of inaction1. Cost of inaction
means where and how is a competing bidder likely to attack if it acquires the target company?
What market would the combined footprint of the two companies put at risk? What product
launches might this new competitor preempt with strengthened R&D? How would new cost
position pressure price? Answering such questions can help a company to anticipate and
minimize future damage. It also reveals the true value of acquiring the target.
Thinking on the same line the total opportunity cost can be breakdown further into three parts;
(1) opportunity cost of organizational and functional stabilization, (2) opportunity cost of
supply side stabilization and (3) opportunity cost of distribution side stabilization.
One of the best metrics to capture opportunity cost of organizational and functional
stabilization is percent of day one (after merger) requirement successfully met on time.
Similarly, opportunity cost of supply side stabilizations can be measured in terms of expected
loss of days to achieve projected/expected purchase order cycle time. Whereas opportunity
cost of distribution side stabilization can be measured in terms of expected loss of days to
achieve projected/expected on time delivery rate and projected/expected fill rate.
The logical question that follows this discussion is that if SCM plays such a big role in an M&A
deal than why traditionally it has not been a part of due diligence exercise? This may be due to
the fact that due diligence for M&A is always done only or primarily by financial experts. Another
reason for ignoring SCM in due diligence could be unavailability of relevant data for this kind of
analysis. In many organizations there is no system in place to capture the day to day
operations/transaction data, without which this assessment can not be completed.
Finally, to conclude this article lets reinstate the conventional belief that due diligence is critical to
screen potential M&A target. But it should not be looked as mere financial assessment but a
detailed investigation that tests the viability of proposed merger or acquisition. The critical factors
that should be considered in this include Supply chain fit to the organization strategy, Realistic
valuation, Opportunity cost of process and IT integration, Change in trading relationship and
Human Resource Management. All these aspects have been identified as important in previous
researches also.