“The danger with a mergers-and-acquisitions boom is that chief executives could allow themselves to get carried away by the thrill of the hunt, reducing their focus on internal investment projects that might have a better chance of bearing fruit,” says the New York Time’s Dealbook column.
M&A activity has reached record highs and shows no signs of slowing. The $2.2 trillion in announced deals globally this year is an increase of 67% over the same period a year ago. This may be good news, but there are accompanying risks.
More mergers and acquisitions typically are a positive sign for the economy, but as activity increases so does the number of failed acquisitions. Executives can make irrational deals driven by excitement or pressure for acquisitions rather than strategy, because cheap capital is available or because others are executing deals.
This year we’ve already seen the failure of a few large acquisitions: Pfizer – AstraZeneca, Fox – Time Warner, Sprint – T-Mobile. Even completed acquisitions still may fall short of expected synergies. We’ve seen a large number of tax inversions and consolidations, which are primarily driven by cost savings. This is concerning because once you’ve cut costs to become “leaner” and more efficient you have to employ another strategy to grow revenues. I’ve rarely found cost savings to be a strategy for long-term growth.
To further understand this phenomenon of irrational deal-making we can explore the M&A cycle that can be categorized into four phases.
- Phase 1 – There are few mergers and acquisitions due to sluggish economic conditions.
- Phase 2 – M&A activity increases as financing is readily available in an improving economy.
- Phase 3 – Activity is robust: executives feel more confident about the economy and they execute more deals.
- Phase 4 – The market is frothy and executives start making “dangerous” deals driven more by excitement and momentum than strategy. Premiums can rise to 100% in this final phase.
The excitement from the M&A boom in Phase 3 drives the onset of riskier deals in Phase 4 that are more likely to fail.
It’s natural to be enthusiastic about a deal, but avoid getting swept up in the excitement and acting on impulse without focusing on strategy. Following a proven, systematic process can help you objectively evaluate your M&A opportunities to make sure they are aligned with your growth strategy. I recommend you develop a strategic acquisition plan before you jump into searching for prospects or executing a deal. Using a process will minimize your risks, help you avoid making a bad acquisition, and increase your chances for a successful acquisition.