Transcript
Speaker: Mergers and acquisitions can be a big deal, even for smaller companies. For middle market companies that are playing the M &A game, getting the value from those deals is as much a matter of doing the integration right as it is of finding the right partner. We'll track the quicksand in merger and acquisition integration, and we'll show the ways to avoid it on the next episode of The Market That Moves America.
Speaker: Welcome to The Market That Moves America, a podcast from the National Center for the Middle Market, which will educate you about the challenges facing mid -sized companies and help you take advantage of new opportunities.
Speaker: Today's podcast is the problems middle market companies face when it comes to integration after a merger or acquisition. We'll talk about the problems and we'll talk about how companies can avoid them and succeed in post merger integration. I'm Tom Stewart, the executive director of the National Center for the Middle Market at the Ohio State University Fisher College of Business. We're the nation's leading research center studying mid -sized companies which account for a third of private sector employment and GDP
Speaker: and the lion's share of economic growth. It is indeed the market that moves America. The National Center for the Middle Market is a partnership between Ohio State and SunTrust Bank's Grant Thornton LLP and Cisco Systems. With me today is Ed Kleingudel, who comes to us from Grant Thornton. Ed is a partner of the firm. He works in its transaction advisory services area, and he leads its integration practice.
Speaker: I've worked closely with the National Center for the Middle Market on our recent study of M &A. Ed, it's great to have you here. It's a pleasure to be with you today, Tom. Ed, let me begin with a couple of points, some of the data that showed up in our study of middle market M &A to set the stage. As you know, the study shows that deal making is prevalent, important,
Speaker: and difficult for middle market companies. On the prevalent side in any given year, about 20 % of companies, one in five, buy something. They buy all or part of another company, and about 5 % of companies sell all or part.
Speaker: So it's prevalent. It's important those companies that do buy something say that they expect that acquisitions will produce more than a quarter of their growth. And as for difficult, well, we were surprised to learn that 70 % of buyers and 90 % of sellers have had little or no experience with deal -making before. And that inexperience surprised me, but I imagine you've seen it.
Speaker: Yes, Tom, we have. It's interesting because the statistics have been out there for a long time that somewhere between 60 some or 75 % of deals don't hit their targets. So there's reasons that people are struggling with. And there's a number of reasons for that that we see people either don't know how to value the deal or they overestimate the synergies to optimistic or slow to integration. So we see this playing itself out in the transactions that we observe in the marketplace.
Speaker: And I was struck by this idea, I think something like 30%, 29 % of buyers said, who'd acquired something in the last three years, said that that was the first deal they'd ever done. And I think 45 % was the number of sellers who said they'd never sold anything before. So they're kind of babes in the woods, which could explain some of that failure rate or that disappointment rate about M &A.
Speaker: Well I think what happens is people aren't as experienced and I think many companies are forced into doing some sort of acquisitions or doing something because to be competitive, to get scale, to implement things, cost measures in terms of regulatory compliance, it has to be bigger. So they're looking at opportunities, they're looking for opportunities for growth and so
Speaker: M &A is one of those ways to kind of achieve the objectives. But again, being forced into that in a way, then people don't have the experience or haven't had a number of deals under their belt. So they run into some of these classic issues that we're talking about what the study has told us.
Speaker: That's interesting, because when we asked middle market executives what was most confusing about the M &A process, the number one thing that they said was getting the strategy right. And number two was finding the right target or the right buyer, and number three were issues of integration. And they were very close.
Speaker: in ranking. But one thing you've just suggested to me is that in some cases, if that strategy is kind of defensive, I've got to do it. I've got to do it to get bigger. I've got to do it for compliance reasons. If that strategy is unclear, that probably is something that makes integration problems more likely. Yes, I would agree with that. So the concept of bigger might be better for us in our current situation.
Speaker: that we understand. But then picking the right target, doing the right deal, making sure it fits within the strategy. Is this really kind of just scale? Is it kind of a vertical integration to kind of go up market or down market? That strategy has to be played out. And if that strategy is right, then they might pick the right targets and hopefully then that lays out kind of some of the factors that they should consider in the integration process as well.
Speaker: But your focus is specifically on the integration, although it obviously connects through the whole process. But what goes wrong? I mean, when integration screws up, I mean, any stories or examples or just patterns of the kinds of problems that crop up when companies try to put a deal together and turn it, bring it alive and put it to work?
Speaker: Well, Tom, that's an interesting comment. There's a lot of reasons why I think people run into problems with integration. The first part, and I'll just give you some examples, companies work very hard in many cases to get a deal across the finish line. They spend a month, two, three in diligence. They're kind of exhausted by the process. And I remember one case of a client saying one time, well, the deal is going to close. We've got spring break here in our jurisdiction. Let's take a week off.
Speaker: And of course, they lost all this momentum when that target is saying, they spent three months crawling all over us. What happened to them? So they lost this momentum. They lost this opportunity to kind of get things moving. So that's kind of extreme. The other thing is we've seen on the flip side saying, OK, we've got this integration checklist. And so we're going to follow that. But it doesn't necessarily align with the strategy. Why did we buy this deal?
Speaker: Is it a person's insights or technical capabilities or is it literally scale which it's an add -on and we can take costs out?
Speaker: that has to play into the integration plan as well. And so we see a number of these things coming to fruition that it really is a struggle. The other thing is people said integration can't be that hard, but it is. There's a lot of moving parts, things that have to get done. Systems have to be aligned, at least to be able to get information to the acquirer, accounting processes, just controls in terms of what legal documents do we use, what are our terms,
Speaker: terms and conditions, all these things need to align because they're not thought about, they become problematic. Now that's the blocking and tackling. Now let me mention the one thing that's probably the most overlooked. It's the human element. As I mentioned, going on spring break vacation and leaving the target out there by themselves for a week, this is the time when it's time to capture hearts and minds, embrace the new organization that's coming across so they understand
Speaker: what's going, what's happening, what's going forward, how they fit, and so that the integration really can begin and earn us. So we can never dismiss the human component as well. So a lot of reasons why deals go wrong and just like a lot of things people don't think about. You know, I was thinking about that. Years ago, I was talking to a guy named Quinn Mills, who was a professor at Harvard Business School, who said that in your typical
Speaker: integration package. There'd be a stack of paperwork, you know, and he made a gesture eight inches high about all of the systems and operations and stuff like that. And he said, and the people plan would be an afterthought. And he sort of like almost just a couple of sheets of paper. And I would imagine that for midsize companies in particular, I mean, it's always going to, the people piece is going to be always important, but in many cases with smaller companies,
Speaker: the people carry the value more than the processes or systems are so that the human side of integration is even more important.
Speaker: I would totally agree with that. So for example, people probably tie or are very well connected to the targets customer base. So key relationships that exist that cannot be ignored. There might be people tied to certain intellectual capital or certain know how that the acquirers trying to augment or to bring into their own company and losing those people are critical.
Speaker: We've seen a situation where a $250 million company, six manufacturing plants, four in the US, two globally, and their manufacturing resource planning system, their MRP, was a homegrown system called Q after the omniscient Star Trek character that was all in one person's head. So all of these things create risk. And so if you lose that person, what happens? The whole MRP is now at risk.
Speaker: So there's so many reasons why people are critical to a business, particularly the smaller businesses, and the astute acquire really has to look at who's important, who do I need to retain, how do I embrace them, so there's no misstep.
Speaker: And I'd assume that that would be true on both sides. I mean, if I'm selling to you and want this deal to work, I want to work with you to think about help identify the key players, help identify those people who have the sole repositories of tacit knowledge like that guy with the ERP system.
Speaker: and work with you to think about what do I need to do to retain those people? Are there equity packages I can give them to make sure that they see value in the future enterprises? All kinds of sort of intricate, maybe not intricate, but all kinds of really deeply empathetic human stuff I want to make sure is part of that process of closing. That's correct.
Speaker: I've spent 15 years in consulting on integration and 15 years before that on the other side with highly acquisitive companies. So I will tell you this, I think the number one issue with people from a, from a acquirer standpoint needs to be transparency because it's a trust factor. I found that no matter what the retention bonuses of the package is, if the acquirer's management team, if their people don't have credibility with the targets people, people will leave.
Speaker: And of course you can imagine in a time of transition.
Speaker: The best employees of the target are the competitor's best prospects. And of course, the best customers of the target are the competitor's best prospects as well. So it really behooves a company to focus on what do we need to do to embrace the people, bring them across, and avoid a misstep on day one. And quite frankly, some of the best acquirers, it's where they have that first day meeting with the employees of the new company, the town hall, embracing them.
Speaker: answering as many questions as they can and you know they may not have all the answers on day one they may not know for example exactly how the benefit plan will work but they're able to say look we have a team working on that and forty five days we'll know and you can hold them to it. So that gives people sense of some sort of certainty in the time of uncertainty.
Speaker: Yeah, I know. I remember my feeling that I've been through a couple of those situations of being acquired. And I know my first reaction was, gee, plan A is become indispensable.
Speaker: And Plan B is make sure I have Plan B in case I'm not indispensable, but there's always that what, you know, what's, where am I going to fit situation and the issue of what we can do to reassure people. Well, as you said, when Company A merges with Company B, their competitor C is watching and ready to poach.
Speaker: Exactly. And of course, the competitor C has got a PR campaign that's going on painting the acquisition, the merger, and the worst possible light. And of course, you get what you pay for in free PR, which is quite negative. So again, the acquire really has to be ready to address these issues when the deal closes. I mean, immediately when the deal closes, like talking to customers, talking to people.
Speaker: being very proactive if there are key relationships or suppliers being very proactive and transparent.
Speaker: So let me think about midsize companies for a minute, and sort of by contrast, I got to know some of the folks at Cemex, the cement maker manufacturer, head court in Mexico, who had a big strategy of growth through acquisition, a big company, and they really had a dedicated SWAT team that could move from acquisition to acquisition, and they knew what to do, and that was their job.
Speaker: But if we're a mid -sized company and this is our first deal or we make a deal every 10 years, we haven't got a SWAT team like that. How do we think about, how should these companies think about the capabilities they're going to need to beef themselves up to get the skills they'll need to make integration happen well?
Speaker: Well I think for most middle market companies the reality is they don't have an organization that as you said can do all these things necessarily for them. So when they look at what's at stake here and getting the deal right sometimes it requires a few temporary or outside resources to help them think this through.
Speaker: it's kind of like don't be penny wise and pound foolish in this particular case because it can't underestimate embracing employees on day one or making sure a communication strategy is in place or even some of the blocking and tackling that we talked about like bank accounts and things like that, making sure the business can be funded and run. So there are a lot of moving parts
Speaker: And with an acquirer, if the experience level isn't there, it's worth tapping into the knowledge of other people, whether it's an outside firm or people they know, in order to supplement what they need to do.
Speaker: One thing we learned in the study was that 45 % of sellers were surprised. In other words, they weren't expecting to sell, but a call came, the doorbell rang, and something happened, and they suddenly found themselves selling all their part of the business. And the other thing, which goes back to something you said at the beginning of this conversation, is that about 20 % of buyers didn't expect to buy.
Speaker: an opportunity emerged. I mean, they weren't thinking about inorganic growth, but then something happened. And so they're not only inexperienced, but they're
Speaker: But they may have to build capabilities pretty quickly, and though they have advisors, they may have a lawyer, but that lawyer might not have had experience in integration. They obviously have an accountant, but that person might not have had it. What are some of the things that companies ought to do to assemble that team? At the same time, of course, they don't want to overload it, right? You don't want to bring so many people around the deal table that
Speaker: that you're paying—all the value goes away in fees. How do you help an executive team pull together the right advisers and know what that right adviser set is?
Speaker: I think the first thing that we typically do with a client is when they announced a deal, we want to work with them on creating what we call an integration blueprint. And what do we mean by that? You say, okay, first of all, let's start out with your value proposition. You bought the deal for this reason. How does that manifest itself in the integration plan? What are the specific actions that will be taken?
Speaker: For example, if you want to bring their product slate into your own product slate, what are you doing to educate the sales force in your organization? How are you bringing their sales organization in? How are you gonna report this? Are they gonna be special incentives?
Speaker: those kind of things. So helping them to think through what does this mean tactically now, it's great to have it in a, in a vision statement or in a, in some sort of a investment thesis, but now it's got to play out in reality. And so we want to think, first of all, how does the strategy play out in the integration plan? To me, that's the number one misalignment because if we start down a checklist of things,
Speaker: putting people on the payroll which is still important but it may not be the most important thing so are they focused the second thing is to look at the risks associated with the transaction we touched on a number customer retention employee retention cultural alignment how does the organization fit in.
Speaker: because if an organization, the acquirer is much more rigid and you're buying an entrepreneurial company and that's the value they see, how does that entrepreneurial business fit in? So what policies need to be in place on day one? Because maybe that's different. The synergies that were estimated, what's the plan to capture them? And what I will always call the infrastructure systems reporting, getting key performance indicators out of business. So there's a number of risks to think about.
Speaker: And the third thing we say, okay, how could this business be disrupted? Just forget the transaction for a moment. What were the headwinds that were in the marketplace, if any, and how do we address them as well? Because those risks exist with or without the transaction. We want the company to really think about this acquisition in a very holistic way. And from there, then we can plan an appropriate integration.
Speaker: and also your advisor group. So to take your first example, if getting those sales, that Salesforce incentive and the sales people trained up right is critically important, then you might need to bring an advisor in for that or not, depending on what it is. So that would also help me figure out where I need more expertise than I have in -house and the kind of expertise I want to bring together or want to bring to it.
Speaker: One of the things that I'd like to sort of close with, I mean, this I think was a really good list of ways in which you can prepare and cope with the surprises that are going to come, because they are going to come. And maybe you could pull out at a couple of things that you see companies
Speaker: needing to do that would really also be great at preventing those risks from appearing in the first place. We've talked a little bit about the cure, talked a little bit about the ounce of prevention.
Speaker: Well, I think there's a few things that companies can do. I honestly think some of this planning and risk assessment needs to happen already in the diligence phase. And so we've been more proactive with clients saying, OK, have you looked at this business from a business standpoint, the synergies, real, not just from a numbers standpoint?
Speaker: But can they achieve what they think you're going to achieve? What about these risks on customer concentration or key employees? Is there anything being done in diligence? What about what kind of incentives that the company has to target? How will they align within your own organization? Because the worst thing to do is disrupt the person's lifestyle. So I'll give you an example on that one.
Speaker: We had a client and it was a relatively large client years ago who bought a very high tech firm in the Boston area. It was basically a think tank, very smart people that came out of this technology space. They were buying it for that technology space. And so they had an integration checklist and said, put them on Blue Cross Blue Shield of Illinois. So they did. Problem was there were no doctors in Boston for Blue Cross Blue Shield of Illinois. And so we had 40 smart people that suddenly had no doctors.
Speaker: Not a very good strategy, but that's kind of was not well thought out. And talk about getting off on the wrong foot with your new critical employees, too. I mean, you can fix that problem, but you've also created an impression that that's not going to go away.
Speaker: Exactly. And I'll give you another one from a diligence standpoint. So we had one time an injection molded plastics business. Actually, this is my time in industry. We're looking at this deal. And from a numbers standpoint, it made sense to move the Tennessee plant to Arkansas. There was capacity, we could build the inventory, the molds and presses could be moved. It looked like a slam dunk. And so there was a synergy for this. Of course, nobody actually looked at the contract for the main customer of the Nashville plant.
Speaker: and they were making these, I'm dating myself here, the big projection frames for these big projection TVs and the contract called for the plant to be in proximity to that customer. So that's one of those synergies, it's not a 10 % miss or a 20 % miss, that's 100 % miss. So just looking at from an operational standpoint, having thought that through before just saying, okay, this is a great synergy, we'll be able to get it.
Speaker: because the numbers worked on a piece of paper. But looking at the contracts and the operations, it wouldn't work.
Speaker: So Ed, I'm sort of hearing three things as we sort of maybe tell me if this is a good wrap up. Number one is that the people side of getting integration right, the talent side, the human capital, the intellectual capital side of that is always important and particularly important in middle market acquisitions where people more than processes and procedures may carry a lot of the value. So that would be one thing.
Speaker: A second thing would be that it's really important to let your strategy drive
Speaker: You're not only the decision to make a deal and not only the choice of target or seller you want to make, but your integration plan. You don't just want to go down a random checklist. You want to build an integration plan that is designed to maximize the value that you've strategically identified.
Speaker: And the third thing is that while you're really focused on that deal and really focused on getting it right and really focused on running your company, you mustn't lose sight of the larger competitive and business environment, that the rivals are still out there, the customers are still out there.
Speaker: The disruptive technologies or the mega trends are still out there and you can get caught in tunnel vision because you're so wrapped up doing your day job and your integration job that you forget to pick your nose up from the grindstone and look around.
Speaker: I think, Tom, that's an excellent summary of things. I would add one thing, one slight dimension to the talent standpoint is the cultural component, too, because typically smaller companies could be owner -operator led, and so it could be more entrepreneurial, less structured in decision making sometimes.
Speaker: 50 % of deals, the statistics are out there, go sideways just because of cultural clash. So in addition to making sure the employee and the workforce is right, we got to think through the cultural components as well. Right. And some of those are, as you said, they are sort of questions of formality versus informality. And it's not just whether there's foosball, but sort of how decisions get made.
Speaker: Our decisions get made, how they team, how collaborative. We've seen all these things, right? One where the owners dictate something and everybody says, yes, yes, sir, how high. And the other one, it's more collaborative, more familial. They challenge the process. Those things have to be addressed because they don't go away just because the transaction happens.
Speaker: And this has been a fabulous conversation, and I'd like to thank you very much for it. You can learn more about Ed Kleinkudel and Grant Thornton's transaction advisory services from their website, which is grantthorton .com slash services slash advisory. And you can find and download our M &A report, Middle Market M &A, at the National Center for the Middle Market's website, which is middlemarketcenter .org.
Speaker: Thank you again for listening to The Market That Moves America. Never miss a new episode. Subscribe to the podcast on iTunes, Stitcher, Google Play, or wherever fine podcasts can be found. Or you can subscribe and learn more about us at our website, which again is middlemarketcenter .org.
