Global expansion, acquiring IP and value chain re-alignment have been some of the key motivations for cross-border mergers and acquisitions (M&A) in recent years, especially for Chinese companies. It goes without saying that a solid strategy should be established and re-validated during the due diligence (DD) process. In addition, fully understanding the target countries’ specific tax, legal and regulatory issues and industry regulations are also important common considerations in a cross-border M&A before negotiating the deal and moving towards the deal close.
Over the years, companies, especially the large multinational firms, have become more experienced in handling the pre-deal and the transaction phases of a cross-border M&A lifecycle. However, integration planning and execution for many companies are still very challenging and overall success rates are still low against the 50% benchmark. The batting averages for Asian companies are even lower when it comes to outbound M&As.
If we just look at the statistics on profitability measures for the outbound investment from Japan and China, we can get a sense of the challenges the companies are facing. Based on cross-border research that tracked 116 outbound investments for deal size over $100mm by Japanese companies, only 8% were profitable 10 years after the acquisition, 44% were failures and the rest had only mediocre performance.
44% were failures
More recently, from a survey done by the China Commerce Department on over 250 Chinese companies doing outbound M&As, only 13% achieved expected profitability while 39% reported significant profit loss after the acquisition. Language and culture barrier; lack of effective governance; poor relationship with the local labor unions; underestimate of environmental and regulatory risks; and improper management of local stakeholders were among the key challenges reported. Clearly, these are some of the typical challenges facing a company expanding into a different business and cultural environment overseas. However, many companies are not prepared to deal with the challenges. Even if they have heard or possibly knew what’s coming, they are not ready until it was too late.
I have seen my fair share of Chinese companies’ cross-border M&A challenges in the last 10+ years while working in China. While there are many issues that need to be addressed, three fundamental root causes contributed to the majority of the failures:
- Unclear pre-deal strategy or unfeasible deal rationale
- Incomplete understanding of the target and its business environment
- Lack of integration leadership, experience and “soft” management skills
Many Chinese buyers rely on opportunistic approach and driven by short-term financial objectives to venture into deals that are often resulted in disappointment. They tend to rush through a DD process and may only do legal and financial DD with less attention on culture and management system differences and associated risks.
To make the situation worse, the acquirers typically don’t have enough experienced staff or internal resources to manage the acquired after the deal is done. Top leadership at corporate levels get concerned only when something goes wrong. We often get pulled into those situations to “put out the fire”. In one case, fixing a problem cost the client three times more than it could have incurred for a typical properly planned integration project.
Based on our post-merger integration practices over the years and the many discussions we had with the acquirers regarding their lessons learned, we share the following key insights and “must-dos” to help the acquiring companies improve their odds of success in overseas investment.
Critical driver #1 – Establish a clear strategic vision and capability fit before engaging into an overseas M&A project
When investing overseas, we all know that what works in the domestic market may not work in a foreign environment. However, in many cases, managers are driven by “opportunities” and can lose track of the strategic reasons to do the investment in the first place. In addition, many acquirers are not equipped with the right resources to execute the project, especially after the deal is signed and many risks start to come to light during the integration phase.
A seasoned and serial acquirer typically establishes a clear M&A strategy aligned with the company’s growth strategy and resources well before embarking on target searches. To ensure M&A readiness, they first review their long term growth vision and then map out their needs that can be filled by in-organic growth so that their M&A strategies are fully aligned and their M&A target profiles are clearly defined. In addition, they review their team strength and weakness for capability gaps. Since the resources are not built over night, particular for cross-border projects, they sometimes leverage external experts to fill the gap and enhance their internal teams. Whatever they do, they make sure the combined M&A teams (internal and external) are experienced and/or trained to execute the global expansion.
A well-prepared M&A team can articulate exactly what synergies they expect to achieve
A well-prepared M&A team can articulate exactly what synergies they expect to achieve; what profile they are looking for; what kind of risks are show stoppers, etc. If your M&A team is still telling your buy-side advisory firms to go find a “good target”, then it would be a sign that you are not ready to start a cross-border project.
Critical driver #2 – Understand your targets with proper due diligence that is aligned with the acquisition strategy
Before deal negotiation and signing, it is crucial that an acquirer execute a thorough due diligence process to fully understand the target company. That means that a carefully designed and well executed DD that covers appropriate width (scopes) and depth (details) consistent with the investment rationale or acquisition strategy.
Many acquirers, especially those from China treat financial and legal DD along with some business-specific investigations as the must-have, while viewing other DD as nice-to-have at best, but not necessary and ignorable. However, in many cases, understanding the difference in behavior, culture and business environment of the target can be more important, especially if the acquisition is aligned with a long term and sustained value generating growth strategy. These aspects of DD are often overlooked by managers who either are in a hurry to get the deal done or assume that the synergy such as sales increase potential from accessing a larger market would be more than enough to compensate for any potential risks from lack of a complete DD. However, many of them were surprised by the opposite reality post deal.
Culture due diligence (CDD) can be one the key success contributors for strategic acquisitions
Culture due diligence (CDD) can be one of the key success contributors for strategic acquisitions in a foreign country. Many studies have shown that culture is the number one issue that could make or break a cross-border M&A project. Culture in this content is more about the corporate culture such as how people behave, make decision or judgment and be motivated, etc. Mapping out the corporate cultural and management style difference through CDD and use the insights to drive the integration approach. This will set the M&A project on a right path and prepare the teams on both the acquirer and the acquired sides to effectively collaborate and realize the synergy expected for the M&A deal. More detailed discussions about CDD will be available in our upcoming newsletters, make sure you subscribe to that at the end of this article or on our website if you are interested in learning more about this topic.
In addition to include appropriate scope in a DD project, the execution approach is also vitally important. It is not about fulfilling a checklist of questions; it is more about leveraging experts’ experience with proven skills to discover the potential risks and subtle elements in a business operation such as employee sentiment and the manager motivations in a CDD study for the target company. Use an experienced local professional team to carry out the DD process is a way to uncover potential risks, to check the assumptions on synergy feasibility and to understand the reliability and quality of the information collected.
Risks identified from the DD will be used as inputs to develop mitigation measures in the integration plan. A well-executed DD project will set up for success for the post-merger integration planning and later on execution.
Critical driver #3 – Establish an integration management system and have an integration plan ready to go on Day one
We have witnessed how many acquirers tried to handle cross-border M&A integration with insufficient resources and management systems. When it comes to post-merger integration, a common practice among the many less sophisticated and inexperienced Chinese acquirers is to send a “trustworthy” (but not necessarily PMI skilled or experienced) executive along with an accountant to the acquired and rely on them “do the job”. An even less controlled approach is to let the incumbent management team at the acquired company continue “doing their jobs” as if it is business as usual. It is no surprise to see that in many cases, the conditions at the acquired companies showed no improvement or got worse post-deal.
Having an established post-merger integration system combined with a skilled team is one of the core competencies for serial acquirers. But for others, some might have had the capability at one time but lost it due to core integration team member turnovers, and some might never have such a capacity if they only do M&A occasionally. However, no matter what the situation might be, establishing this ability to effectively manage the acquired has been proven to be a winning foundation for successful life-cycle M&A management.
Improving competency of M&A management, especially on post-merger integration, can greatly enhance the ability to overcome the challenges and increase the chance of success. Key components of an M&A management system include:
- Clear M&A strategy framework as discussed earlier in this article, this should be the guiding principle for all M&A decision makings and activities that follow
- A team with skills and experiences to execute the strategy – it can be a combination of internal and external resources
- A DD execution process that is aligned with the deal rationale and a review process after the DD to make go/no go decisions based on risks/reward assessment and strategy congruence
- The governance structure that enables leadership control and monitoring while empowering effective team collaboration across functions and borders
- An integration planning process that addresses the risks while ensuring synergy capturing
- A playbook that captures the details on how to execute an M&A project from start to finish with a focus on how to execute the integration program to achieve expected synergy
- Postmortem process that reviews the lessons learned from the last M&A project and uses the learning to improve the team skills and improve the M&A playbook for future projects
While this is not a comprehensive list of must-haves nor a complete stranger to most M&A managers, it is very important to point out that getting an integration plan ready before the transaction closes is one of the most effective ways to mitigate and prevent risks. This is a direct contrast to the ad-hoc and “firefighting” approach mentioned earlier in this article.
A solid integration plan is fully aligned with the M&A and integration strategy
A solid integration plan is fully aligned with the M&A and integration strategy and should not only include objectives, steps, measurements, schedules, and the budget to achieve the desired synergy but also processes and measures to mitigate potential risks.
An integration program is considered properly planned and executed after all potential issues identified and risk mitigation measures implemented in addition to value capturing works including strategy alignment and culture integration.
In summary, three key areas of critical to-dos will directly impact the outcome of a cross-border M&A endeavor.
1) Establishing a clear strategic vision and reasons for the M&A.
2) Fully understanding the M&A targets with proper due diligence aligned with the M&A strategy and deal synergy.
3) Make sure appropriate resources, plans, and management systems are in place and ready before deal close.
To learn more about managing the acquired company in cross-border M&A, contact us.
Robert Yu is a partner at Global PMI Partners, an M&A integration consulting firm that helps mid-market companies around the world bring their operational, technical and cultural differences into alignment. Global PMI Partners has a reputation for delivering exceptional consistency, speed & customized execution on the complex operational, technical and cultural issues that are so critical to M&A success.