In this blog post, Khushali Chauhan, who is presently working in Jade Blue Lifestyle India Ltd. and is also pursuing a Diploma in Entrepreneurship Administration and Business Laws from NUJS, Kolkata, explains and analyzes the concept of acquisition.

In layman language, acquisition is obtaining something. In business language, however, acquisition is the process of taking over a company, i.e., when company A takes over company B, it is called acquisition.

Mergers and Acquisition – Understanding the Terms

Mergers and acquisitions is a generic term used to mark the combining of two firm’s assets and liabilities. In the case of a merger, two companies come together and form an entirely new entity or merge only with one company that already exists. Example – in 2007, there was a merger between Digital Computers and Compaq, where the companies were merged, and now it is known as Compaq.

Acquisitions may be good or bad for the acquiring company. It all depends on the factors taken into consideration at the time of acquisition and how much of the strategy put in place is implemented. If the strategic rationales such as pursuing international scale, filling portfolio gaps, or building a third leg of the portfolio tend to be vague, then the acquisition is most likely to fail.

Successful Acquisitions

There are five archetypes that are looked into for a successful acquisition – Improving the company’s performance, creating market access for products, acquiring skills or knowledge faster and at a lower cost, removing excess from the industry, and picking the right business to develop. If in case an acquisition doesn’t conform to any of the above, then there are lesser chances for it to succeed. A lot of executives also justify acquisitions by choosing from a broader number of strategies, i.e., roll ups, improve competitive behavior, transformational mergers and buying cheap. Someone who wants value, however, should stick to the basic five strategies and not go too deep.

While acquiring a company, it should conform to one of the below five archetypes. It should be kept in mind that overpaying for something wouldn’t ever help to create value.

• Improving the target company’s performance: This is one of the most basic reasons as to why people acquire a company. Once you acquire it, you try and improve the revenues by the technology or innovation that you have, which in turn will also reduce the costs and lead to an overall development of the company. A company that has lower margins and lower returns is easy to convert to a more profitable business than one with higher margins and higher returns. For example, Tata acquiring Jaguar can be a good example for this strategy.

• Consolidate to remove excess capacity from the industry: Once the industry is mature, it is very difficult for the old players to keep growing at the same pace. At the same time, new players keep coming in. Solution: Acquire the new players. The new players will probably have innovative ideas and ultimately it solves the purpose of eliminating the competition. In the pharmaceutical industry, consolidation is very helpful since a lot of product portfolio is similar, and therefore, it can end up saving a lot of costs also.

• Creating market access for the target company’s products: A lot of times, companies have the right products but do not have the budgets to sell them or pitch them to the right people. A company usually acquires these and then creates a market for those products by pouring in the resources required. This improves the revenue of the company acquired and in turn also improves the goodwill of the company that brought the other company up. The revenues also improve because now there is a big name attached to it and therefore the mindset of the people changes. It can also happen that both the companies have two different markets and new products can be introduced quicker in the markets. The merger between P&G and Gilette helped both the companies to a great extent since both discovered new markets for their products. P&G being a global leader helped Gillette a lot with its sales.

• Get skills or technologies faster or at a lower cost than they can be built: One cannot build everything if it’s available at a lower cost outside. A lot of companies first outsource the technology they use and once it’s tried and tested, they go on to acquiring the company. It is based on a very simple logic that not everyone can think everything. An idea that might’ve occurred to someone in company X may probably never be cracked by company Y. Therefore it makes sense for company Y just to acquire or merge with company X in case it wants faster growth. Someone who might be able to add skill to the organization can be hired. In the same way, an entire company can be merged with or acquired if needed. Once the value of these acquisitions is known, then the revenue can be huge.

• Pick winners early and help them develop their businesses: Once cannot keep waiting to acquire another company. If you think the deal is right and will create value for your business as well as that business itself, then one should go ahead and buy it before the deal goes off the table. Johnson & Johnson adopted this strategy very well and converted all the acquired business into huge growth businesses. However, this strategy requires an investment, a high risk taking ability, and a lot of skills and patience. Some businesses might be such that they would yield value only after a certain period. To nurture the business till that time and then being able to see the growth is a task in itself.

Important Strategies

The four important strategies are:

• Roll-up strategies consolidate highly fragmented markets where the current competitors are too small to achieve scale economies.
• A lot of companies consolidate to improve competitive behavior. They think that consolidating will help. However, too many when too many companies consolidate, there might be a chance of failure.
• Companies also into a transformational merger where they change their focus to something else and let the other company do what it’s doing the best rather than competing.
• One best way that executives think for acquisitions is buying cheap. Buying cheap, however, can work only with a few companies and not every time. Sometimes in buying cheap, you might end up acquiring entirely wrong companies. Therefore here also you need to take a lot of care and plan it strategically so that there isn’t any wrong buying.

Conclusion 

All said and done, mergers and acquisitions are a great way to grow the company. However, one also needs to see the risks attached to it and analyze what one could gain from taking such risks. Then only it can be successful enough with a good strategy.