‘Strive not to be a success, but rather to be of value.’ – Albert Einstein.
Acquisition can become a tempting component of corporate growth strategy in times of slow organic growth. However, research consistently indicates that over half of M&A deals fail to create value – basically, more often than not this comes down to a coin toss.
It might be tempting to wait for the right deal to be presented by an external advisor, but by the time the pitch book arrives, it is probably already too late. Given the high stakes and risks associated with M&A, investing senior executives’ time, money, and organisational focus to help overcome the various challenges of M&A-driven growth – in advance of any particular deal – must pay for itself many times over.
Although every M&A approach contains elements that are unique to the company or industry and not all businesses aim to become a serial acquirer, the kaizen-like approach of Danaher – from finding to buying to integrating – provides some insights into a panoply of best practices it has refined over the ~400 acquisitions it has made over the past 35 years.
Danaher, an industrial products and hand tool manufacturer, operates more like a holding company that buys and builds companies. Until its latest deal (the acquisition of Pall for US$13.6b in May 2015, twice the size of its largest previous purchase), its focus had been on medium-sized acquisitions that are then systematically exposed to its operational excellence. As a result, its member companies have become B2B category leaders, consistently offering high-quality, reliable products and solutions in what otherwise would be a diverse group of professional, medical, industrial and commercial enterprises. This drove the company’s total shareholder return to increase by 70,000% since the early 1980s versus 5,000% for the S&P 500.
So what explains Danaher’s ability to deliver successful acquisitive growth in a consistent manner when so many other companies stumble?
1. An investment thesis that takes into account the company’s operational foundation, its current context and economic realities. It goes beyond generic strategy statements such as “strengthen our Asian markets” to identify how the company will compete and create value over time e.g. why us? why now? how do we get there?
A good investment thesis should be specific enough to clarify where the company wants to increase its exposure i.e. where it should be pro-actively looking for transactions to avoid ‘me too’ or off-strategy transactions that are unlikely to add value.
Danaher has a rigorous system for identifying and bidding on potential acquisitions. It seeks industrial brands with at least $1 billion in sales and a 5% annual growth rate in an attractive niche market such as environmental control or hand tolls, with no exceptional competitors. There should be a clear potential for margin improvement.
2. Clearly laid-out M&A principles. Danaher has implemented a structured end-to-end process from deal sourcing to integration supported by a short list of principles designed to take time and cost out of the M&A process.
Thanks to such principles, Danaher focuses its attention on the issues that matter most at each stage of the transaction process. For example, during due diligence, it develops early a short list of key commercial deal-breakers and focuses the largest part of its efforts on resolving them. During bidding, it calculates a ‘walk away’ value to ensure the company does not overpay for the deal.
3. Expertise that generates value for the acquired business – in the case of Danaher, operational improvement. One of Danahers’ earliest acquisitions, the brake-maker Jacobs Vehicle Systems, had started to experiment with a Toyota-style lean manufacturing system. It worked, and Danaher began rolling out what came to be known as the Danaher Business System.
Thanks to this systematic process, Danaher can quickly harvest the benefits from business acquisitions through cutting costs and expanding margins. It uses a unique set of continuous productivity improvement tools which has evolved over time to include a large number of business activities e.g. research and development, go-to-market activities, and plant, supply chain and backroom operations.
For example, Gilbarco Veeder-Root, a leader in point-of-sale solutions, and Videojet Technologies, which manufactures coding and marking equipment and software, saw their margins improved by more 700 basis points after their respective acquisition.
4. Active portfolio management and capital allocation. Danaher has continually rebalanced its portfolio by purchasing new companies and divesting from old-line manufacturing businesses or businesses that had become irrelevant to its wider portfolio – its largest divestment was APEX Tool Group, which it sold to Bain Capital for US$1.6b in 2012. Danaher has moved 66% of its capital into new businesses since the 1990s.
It also aggressively manages the allocation of its capital across its current and new businesses or investment opportunities, based on their potential for growth and returns on invested capital. The excess capital is sent where it is most productive, and all investments pay for the capital they use.
Over the past few years, its attempt to devote more resources to large-size acquisitions of science and technology companies has lead its industrial units to rely more on organic growth. In order to remain the ultimate deal making machine, Danaher has recently announced its intention to split its business into two: a science and technology growth company that will retain the Danaher name with businesses in diagnostics, water treatment, dental and life sciences and $16.5 billion revenue in 2014, and a diversified industrial growth company with a combined revenue of US$6b in 2014 which will be spun off towards the end of 2016.
If you want to include M&A as part of your growth strategy, you can pressure-test your state of readiness starting with 4 questions:
1. Do you have a clear and distinctive investment thesis that describes the role of M&A in your growth strategy, and defines the types of deals for which you are uniquely positioned to add value?
2. Do you invest significant amounts of time refining your investment thesis and looking for potential deals?
3. Do you have a clear set of principles that define your M&A priorities and the best practices for executing these?
4. Do you have an explicit capital allocation framework that can assess the value created across competing uses of funds?